Speaking at the Morningstar UK Investment Conference in early May, Ed Fishwick, Managing Director and Co-Head of the Risk and Quantitative Analysis Group at BlackRock, explained what risk management lessons we can learn from the credit crisis and discussed the relationship between risk, price and volatility. His video interview and the full transcript are published below. For more coverage of Fishwick's presentation, as well as presentations from a broad range of investment luminaries at the Morningstar Investment Conference, read my blogs from Day 1 and Day 2.
Transcript
Holly Cook: I’m Holly Cook for Morningstar. We’re here at the Morningstar Investment Conference and here with me today is Ed Fishwick, who is Managing Director and Co-Head of the Risk and Quantitive Analysis Group at BlackRock. Ed, thanks for joining me.
Ed Fishwick: Quite welcome.
Cook: You just gave a presentation on risk management and lessons from the credit crisis, could you summarise that for us in a couple of minutes?
Fishwick: Yeah, I mean the central theme of the discussion was that at BlackRock we’ve always regarded risk management as central to any modern investment process. And the last two-three years, which have observed extreme turbulence and dislocation in financial markets, to us have been a great example of why that is important. What I focussed on was a number of key themes that emerged from the crisis.
So the first is around the role of liquidity. And we'd always understook, people have always understood that liquidity was a central issue but the events of the past two or three years emphasise that at a level I think previously unimagined. Now in terms of any decision making, liquidity is a key issue in terms of everything that you do.
Secondly I discussed the fact that quantitative models are ubiquitous in this industry and they are crucial, and they are very powerful tools in terms of improving investment strategies and improving investment outcomes, but they are just models--they rely on assumptions. And again, the last two to three years have included many dramatic examples of how these assumptions can be violated. So there’s a need for ongoing caution in their use, and a need for understanding of the assumptions in these models.
Thirdly, we talked around the fact that data integrity, data quality is crucial and the last piece of time has again emphasised that dramatically. And we talked about the need to put resources into understanding, assessing and monitoring data quality.
We talked about the emergence of political risk in developed markets as a key theme of both the credit crisis and now. So, you know, I think we tend to associate political risk with emerging economies, developing economies, but the last piece of time has shown that decisions coming out of major financial centres, major capitals can have profound influences on absolute and relative asset prices and can introduce discontinuities, can introduce jumps in asset prices. And so that landscape has changed. We talked about the fact that in terms of risk management, a long term commitment is crucial in terms of resourcing, in terms of people, in terms of culture. Getting the concepts and the ideas and the importance of risk management central to decision making in an asset management company. Finally, we talked about the fact that, although often when people talk about risk, they think about volatility, there are other kinds of risk. In particular, price can be a big component of understanding risk: when prices move far from where they were, when valuations become very stretched either way, the risks you face can be highly asymmetric, and so again we talked about the role of understanding valuation, the role of understanding price in risk management.
So the overarching theme was about the need to have risk culture and risk management at the centre of everything you do in a modern asset management company. The need to recourse it properly and the need to remember some of the lessons of the past few years.
Cook: So you highlighted the relationship between volatility and price in risk management, what do recent levels of volatility and current prices tell you about the current investment environment and attitudes to risk?
Fishwick: Well, volatility right now is very interesting because until, maybe, two or three days ago, volatility levels were very low and so you had this rather curious phenomenon where clearly there were many contingent risks in markets. I think almost no investor you spoke to would have told you the world looked benign or safe and yet if you looked at a volatility metric like the VIX it was very near long run lows. So you had a world that wasn’t volatile but lots of risk out there. And this relates back to this point about political risk and the discontinuity of risk so what we have seen over the past few days even is massive swings in market prices induced by policy announcements coming out of the European Central Bank, out of the IMF, out of Germany and elsewhere. And again that’s about discreet discontinuous policy decisions evoking or inducing major levels of volatility out of nowhere. Likewise if you look at the price of global mining companies over the past week--incredibly volatile, on average negative, because of tax changes in Australia. There you have a situation where vol is benign, the world looks safe looked at only through that lens, but in reality there are all these different discontinuous contingent risks out there which actually we’ve seen even in the last few days.
Cook: That’s a very interesting insight there, Ed thanks very much for joining us.
Fishwick: Thank you.
Cook: For Morningstar, I’m Holly Cook.
