John At The Center

For some, the crisis has shattered faith in the precision of models and their inputs. They failed Keynes’s test that it is better to be roughly right than exactly wrong. One number coming under renewed scrutiny is “value-at-risk” (VAR), used by banks to measure the risk of loss in a portfolio of financial assets, and by regulators to calculate banks’ capital buffers. Invented by eggheads at JPMorgan in the late 1980s, VAR has grown steadily in popularity. It is the subject of more than 200 books. What makes it so appealing is that its complex formulae distil the range of potential daily profits or losses into a single dollar figure.

via Economist.com.

One way to deal with that problem is to self-insure. JPMorgan Chase holds $3 billion of “model-uncertainty reserves” to cover mishaps caused by quants who have been too clever by half. If you can make provisions for bad loans, why not bad maths too?