Risk management is simple, says Wilford

And for the most part, the financial community has been playing catch-up to these crises.

The holder of the W Frank Hipp distinguished chair in business administration at The Citadel, a military college in South Carolina, recently dropped by the Stock Exchange of Thailand to give a talk on "Risk management as an art" to risk managers, fund managers and other financial professionals at the invitation of the CFA Society of Thailand.

Wilford, a partner in EQA Partners, a hedge fund based in Connecticut, believes that fingers have been pointing at the wrong culprits. Blaming the current global economic downturn on "complex" derivative-structured products or on hedge funds is just an easy way out.

"These financial products are not complex. They are no different from simple saving-loan products," said Wilford, who, after a one-year stint as an economist at the Federal Reserve Bank of New York in the '70s, worked on one of the industry's first risk-management teams at Chase Manhattan.

In fact, the most sophisticated bonds he has seen were the Erlanger bonds issued by the Confederate States during the American Civil War in 1863, whose value dropped by 84 per cent just two weeks after they were issued.

Wilford pointed out that the art of risk management can be boiled down to using the right tool to answer the right question. But often people mistake the latest or newest tool for the right one.

Values at risk (VaR) might have been the "hot button" and many risk managers' favourite tool in the '90s, but it, along with the accounting approach, is inadequate and inappropriate when it comes to valuing structured products such as sub-prime collateralised debts obligations.

If VaR is a lamppost, it was not being used to illuminate the risks, but as a crutch for risk managers intoxicated by the siren sounds from ratings agencies.

These structures were built to look like they have very low credit risks, he said. But for them to make money, they have to be highly leveraged.

"Sophisticated mathematical tools are just tools," he said. The wrong tools simply mean the wrong results. Not to sound elementary, although it is, the structures can be broken down into simple components. But there are no textbook answers.

In his financial-economic universe, every crisis begets the financial world a new tool.

Despite some successes - notably Paulson & Co's billion-dollar profit from the sub-prime debacle - hedge funds too have been wrongly accused of bringing the whole financial system down. Many hedge funds understood the risks and avoided them, he said.

It is the regulated institutions such as Citigroup that have taken the blows. "It is a systemic problem. Everybody [central banks, rating agencies, financial institutions] is analysing these risks in the same way," he said.

Because banks believe that the government is going to insulate them from mistakes from these risks, they have not been watching their steps.

But if we can pick up a lesson from history, it would be the Great Depression, which was worsened by worldwide protectionism.

"In the 1930s, bankers didn't get bailed out. There is no last resort," he said.