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	<title>Comments on: Predicting the credit crisis</title>
	<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/</link>
	<description>FT Alphaville from FT.com</description>
	<copyright>Copyright The Financial Times Ltd 2006. "Alphaville", "FT" and "Financial Times" are trademarks of the Financial Times.</copyright>
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	<pubDate>Thu, 20 Nov 2008 17:59:09 +0000</pubDate>
	<lastBuildDate>Thu, 20 Nov 2008 17:59:09 +0000</lastBuildDate>
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		<title>by: N Not Set</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17326</link>
		<pubDate>Sat, 12 Apr 2008 09:53:08 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17326</guid>
					<description><![CDATA[http://en.wikipedia.org/wiki/Chebyshev's_inequality]]></description>
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		<title>by: S Jones</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17314</link>
		<pubDate>Fri, 11 Apr 2008 19:42:39 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17314</guid>
					<description><![CDATA[by sb - do correct me if i'm wrong, as I'm no quant. But rating agencies as I understand things, used Guassian copulas in a whole range metrics. VECTOR, CDOROM etc, typically all use(d) them to model spread/default correlations.]]></description>
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		<title>by: sb</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17309</link>
		<pubDate>Fri, 11 Apr 2008 17:10:54 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17309</guid>
					<description><![CDATA[While it is true that the normal distribution is often (sometimes legitimately) used for simplicity, you would never (in finance) use it to calculate the probability of a six standard deviation event, although of course in any model such an event is unlikely. 

The ratings agencies did questionably use normal based models (Gaussian copula) to estimate low probability events and assign AAA ratings, they did not use it in this way.]]></description>
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		<title>by: burnt quant</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17303</link>
		<pubDate>Fri, 11 Apr 2008 15:32:41 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17303</guid>
					<description><![CDATA[It's not hard to make a better stab at the model either - you could say that there are two market states, when risk spreads are high and when risk spreads are low and nothing in between. Then the volatility of the spreads are proportional to their level - which is Geometric Brownian motion a.k.a. Normal distribution of returns.]]></description>
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		<title>by: pegnu</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17302</link>
		<pubDate>Fri, 11 Apr 2008 15:27:07 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17302</guid>
					<description><![CDATA[I think the crisis was predictable in the sense that people just can't go on with lax and reckless lending forever without there being a day of reckoning.  However, there is clearly a qualitative change in behaviour of those spreads during this crisis and previous behaviour and it is not just random noise even if you consider data back to 1992.]]></description>
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		<title>by: pegnu</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17300</link>
		<pubDate>Fri, 11 Apr 2008 15:20:34 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17300</guid>
					<description><![CDATA[they use geometric brownian motion i believe.]]></description>
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		<title>by: burnt quant</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17299</link>
		<pubDate>Fri, 11 Apr 2008 15:20:29 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17299</guid>
					<description><![CDATA[I'm afraid I am a bad writer - what I was really trying to say is that the conclusion about how "exceptional" these events have been is just more excuse making from the Fed for their own part in encouraging speculative excess. It sounds like it's from the same hymn sheet as "you can't predict bubbles before they burst".

I know it's hard to predict a bubble, but really, if I turned up at work in the morning saying it's too hard blah blah then I would fully expect to be shown the door.]]></description>
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		<title>by: burnt quant</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17298</link>
		<pubDate>Fri, 11 Apr 2008 15:13:23 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17298</guid>
					<description><![CDATA[(1) Of course it's not normally distributed. And as has been said this is one problem with VAR. You could try other distributions that have more area in the tails like T-dist or Pareto/Levy. They are much harder to work with which might explain why people try to shoe horn the Normal distribution in there. Alternatively you could say risk mgmt faces the difficult problem, viz you have a lot of broadly average days from which you want to estimate the highly improbable days. That is why so much of quantitative finance is like banging your head against a wall.

(2) Does anyone else find the idea of starting this series in Dec 2001 fishy? I mean what is that like 6.5 years? There were two other significant liquidity events prior to then, around Dec 1999 (the Millenium) and Sep 2001 during which banks were less willing to lend to one another. By excluding these it makes the conclusion: "Looking at spreads going back to December 2001 illustrates just how unusual this episode has been" stronger. If you were setting out to prove something, like how unusual this is and how it could not have been foreseen, then I would take issue with this choice of period.

(3) On more careful reading I now see that this is the point that Sam Jones is making. If you subscribe to the "seductive logic of the boom", which of course the entire group-think Fed appear to do, and if you haven't got a mind of your own and you exclude other bits of data that don't fit in with "the spin" then you'll be really surprised about once in a generation.]]></description>
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		<title>by: S Jones</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17295</link>
		<pubDate>Fri, 11 Apr 2008 14:45:44 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17295</guid>
					<description><![CDATA[On meaningless statistics -

Fully aware that 6-sigmas, 2.5m days etc. is a fairly meaningless number. It's illustrative of the point, however, that it's all too easy to say there's no way we could have seen the credit crisis coming. Looking over a 15 year period, the mean volatility is far far more meaningful, than in a five year period. 

Also - re. normal distributions... I gather they crop up rather a lot in rating agency models.]]></description>
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		<title>by: maximus</title>
		<link>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17289</link>
		<pubDate>Fri, 11 Apr 2008 14:11:06 +0000</pubDate>
		<guid>http://ftalphaville.ft.com/blog/2008/04/11/12260/predicting-the-credit-crisis/#comment-17289</guid>
					<description><![CDATA[It is an excellent piece of research, regrettably despite the efforts of the Fed and the far less effective interventions by the ECB and BoE, the problem is going to persist until Governments actually act to create a market mechanism by which counterparty risk can be reduced. In his short article Luigi Spaventa from Rome University refers us back to Brady Bonds-remeber them, in the Latam crisis banks were similarly mired in debts that could not be priced or traded until Bradys allowed the often deeply discounted debt to be traded and gradually the system stabilised with the indebted countries relieved of the immediate debt burden to begin to grow again. Quite rapidly Brady bonds became highly liquid instruments and unblocked the arteries - they also were redeemed way prior to maturity and replaced with sovereign debt. The US Govt had to step in to suport  these bonds but theey did the trick. It is not by any means a perfect correlation but unless similar types of mechanisms are in place I can see that the TAF or similar efforts will not work. The US Government despite the cries of moral hazard - we had that too- and bailing out reckless lenders needs to act along these lines to unblock this confidence problem amongst banks. We have been here before just in a different part of the globe]]></description>
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