Managing Extreme Financial Risk - 1st Edition - ISBN: 9780124172210, 9780124172227

Managing Extreme Financial Risk

1st Edition

Strategies and Tactics for Going Concerns

Authors: Karamjeet Paul
eBook ISBN: 9780124172227
Paperback ISBN: 9780124172210
Imprint: Academic Press
Published Date: 25th September 2013
Page Count: 172
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Managing Extreme Financial Risk addresses the need for better management strategies in light of increased market risk and volatility in financial institutions' revenue models.  Top officials from the financial and regulatory industries point to real corporate issues, showing how institutions react to financial crises. From first-hand experiences, they explain how effective sustainability management does not just prevent being blindsided; it also leads to proactive solutions that enhance an institution's strength to weather a sudden financial crisis, add significant shareholder value, and reduce systemic risk. Readable, coherent, and logical, Managing Extreme Financial Risk shows how extreme risk needs to be handled when the cost of being wrong means the difference between life and death of the institution.

Key Features

  • Based on the firsthand experiences and perspectives of senior-level executives
  • Concentrates on extreme risk, when the cost of being wrong is not the loss of profits, but the death of the institution
  • Written to be easily understood without algorithms, models, and quants


Executives, board members, and regulators as well as undergraduate and graduate students working in all subdisciplines of finance, especially risk management and financial institution management.

Table of Contents

Dedicated to Walter B. Wriston


About the Author

About the Contributors




Section 1: The Need for a New Approach to Tail-Risk Management

Chapter 1. Sustainability Management is Critical


1.1 Disciplined Emphasis on Protection from Extreme Operational Risk

1.2 No Similar Emphasis on Protection from Extreme Financial Risk

1.3 Absence of Objective Parameters Accounts for the Lack of Proactive Emphasis

1.4 Do Regulatory Requirements Address Effective Management of Tail Risk?

1.5 Stress Testing

1.6 Living-Will Provision

1.7 Liquidity Reserves

1.8 Going-Concern Management and Tail Risk

1.9 Is the Need For Tail-Risk Management New?

Chapter 2. Tail Risk is the Culprit: Tail Wagging the Dog?



2.1 Credit Policy: A Watchdog Function without Any Glamor

2.2 Credit Policy Role at Continental Bank

2.3 Evolution of Revenue Models and the Watchdog Function

2.4 Could the Problems of 2008 Have Been Avoided?



Chapter 3. Need for a Distinct Focus on Tail Risk: In No Uncertain Terms


3.1 Why a Distinct Approach?

3.2 Effective Management Calls for a Distinct Focus on Sustainability Issues

3.3 Sustainability Management Needs Distinct Parameters

3.4 Three Distinct Legs of Risk Governance

3.5 Is the Sole Focus on Risk Management Prudent?

Chapter 4. Sole Focus On Traditional Risk Management Can Be Dangerous: Days of Future Passed


4.1 A Mature Industry

4.2 A New Driver of Revenues

4.3 Days of Future Passed

4.4 And Then a Blind-Side Blow

4.5 A False Sense of Security

4.6 Misplaced Use of Models

4.7 Missing Focus on Tail Risk

4.8 Regulatory Emphasis Encouraged Improper Use

4.9 Sole Focus on Traditional Risk Management—Driven By Statistical Models—Can Be Misleading


Chapter 5. Usefulness and Limits of Quant Models


5.1 Chaos Theory Given Assumption of Normality

5.2 Chaos Theory Given Assumption of Extreme Crisis


Section 2: Elements of Sustainaliblity Management

Chapter 6. If you Can’t Measure it, You Can’t Manage it: Taming Something That’s Lurking Around


6.1 Prerequisite to an Effective Management Process

6.2 An Example

6.3 You Can Manage Exposure from Tail Risk Only if you can Measure it

Chapter 7. Simplicity to Counter Complexities of Revenue Models


7.1 Decision Making Enhanced by Advances in Technology

7.2 Despite Technology and Quant Advances Human Decision Making Remains Simple

7.3 Decisions Regarding Unquantifiable Uncertainty Require A Different Approach

7.4 The Need for Simplicity is Critical In Complex Models

7.5 Post-2008 Developments Have Increased Complexity

7.6 A Simple Measure is Needed as Responding to Complexity with Complexity is a Recipe for Disaster


Chapter 8. A New Measure for Effective Sustainability Management: Probable Maximum Loss


8.1 A Simple Measure to Gauge the Sustainability of a Complex Model

8.2 PML, As a Measure of Exposure from Extreme Tail Risk, Has Several Advantages

8.3 PML Provides a Solid Tool for the Effective Management of Tail Risk

Chapter 9. Continuous Readiness is Critical: A senior executive who wishes to remain anonymous


9.1 Plans Are Useless, Planning is Indispensable

9.2 Readiness Defined

9.3 Degrees of Readiness

9.4 Ready Intellectually and Emotionally

9.5 Ready Intellectually, but Not Emotionally

9.6 Ready Neither Intellectually, Nor …


Section 3: Implementation Issues and the Wide-Reaching Impact on Institutions and the Financial System

Chapter 10. Effective Sustainability Management: From Top to Bottom


10.1 Key Parameters to Drive Risk Governance

10.2 PML as a Measure of the Extreme Exposure Parameter

10.3 Effective Tail-Risk or Sustainability Management

10.4 Effective Sustainability Management to Protect Capital

Chapter 11. Paradoxical Capital Problem


11.1 The Need for a Bigger Cushion is Real Because of the Increased Pressure on Capital

11.2 Increased Capital Solutions are Not Sustainable

11.3 Increased Capital Solutions are Not Realistic

11.4 A New Approach to Addressing the Need for a Bigger Cushion is Required

11.5 Sustainability Management Offers a New Solution by Alleviating the Pressure on Capital

11.6 Another Reason for a New Approach

11.7 A Change is Needed in How Capital is Deployed


Chapter 12. Capital as the Last Defense vs the First Defense


12.1 More and Stronger Defenses Mean Less Pressure on Capital

12.2 Sustainability-Enhancement Programs

Chapter 13. Tail Risk, Regulatory Supervision, and Systemic Risk: Missing Links


13.1 Regulatory Objectives

13.2 Institutional Response

13.3 Reconciling Objectives


Chapter 14. Convergence of Regulatory Objectives and Institutional Interests: Alignment of Goals to Enhance Sustainability and Reduce Systemic Risk


14.1 Apparent Conflict

14.2 The Challenge

14.3 Convergence towards Common Goals

14.4 Reduction of Systemic Risk

Chapter 15. Telling Your Story Effectively to Alleviate Marketplace Anxiety


15.1 High Level of Anxiety

15.2 A New Approach to Communicating Tail Risk Is Needed

15.3 Reducing Anxiety, Building Greater Confidence, and Adding Shareholder Value

15.4 Objective Public Policy Debate

15.5 Too Complex to Manage?

Chapter 16. Critical Factors in Preparing for an Extreme Financial Crisis: A former senior executive who wishes to remain anonymous


16.1 AIG Timeline

16.2 Key Observations

16.3 Sound Human Judgment, Not Rocket Science

16.4 Readiness at the Senior-Most Level

16.5 Simplicity to Counter Complexities and Maintain Control

16.6 Conclusions

Chapter 17. From the Bane of the Revenue Model to a Competitive Advantage


17.1 The Bane of a Financial Institution’s Revenue Model

17.2 Urgent Need for Proactive Tail-Risk or Sustainability Management

17.3 Proactive Tail-Risk Management Enhances the Ability to Respond to Crises

17.4 Effective Sustainability Management Leads to Many Significant Advantages

Chapter 18. Adapting Organizations to Effective Sustainability Management


18.1 Organization Focus

18.2 Implementation

18.3 Conclusion


Appendix. The Wall Street Journal

The Fed’s Stress Tests Add Risk to the Financial System



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About the Author

Karamjeet Paul

Karamjeet Paul has over 30 years of operating, finance, treasury, and exposure managment experience, giving him unique expertise in identifying and addressing critical risk-exposure-reward and other strategic issues at the highest levels in large organizations. Mr. Paul's perspective has been gleaned from hands-on experience in large global organizations, startups in entrepreneurial settings, and consulting assignments.

Affiliations and Expertise

Founder, Strategic Exposure Group


 "...develops a simple but still effective framework for handling extreme financial risk. The introduction of the PMLmeasure enables companies to easily incorporate tail risk in their regular risk management and thereby positively contribute to their long-term survival chances." --Financial Markets and Portfolio Management, Managing Extreme Financial Risk

 "...develops a simple but still effective framework for handling extreme financial risk…focuses on a broad and holistic understanding of the concept rather than on a detailed implementation and problem discussion."--Financial Markets and Portfolio Management, Managing Extreme Financial Risk

"When it comes to the tail risk, Karamjeet Paul encourages senior management to shelve quantitative models and address capital sustainability instead. The book has implications for market participants who work with such unknowns as  99.5%-iles of a deal or portfolio profit and loss distributions." - Sergei Esipov, Quant-Isle

"Karamjeet Paul makes a convincing case for addressing the fundamental issue of 'tail risk' to protect financial institutions and the financial system. Despite all the talk to 'do something' following the 2008 crisis, the impact of tail risk has not been addressed.  Managing Extreme Financial Risk should be required reading for regulators, board members, CEOs and CFOs of large financial institutions." -Vashishta Bhaskar, Duquesne University

"My first impression when I came across Mr. Paul’s book was that it was probably yet one more book by a consultant providing simplistic and not very insightful advice. I was wrong. Mr. Paul is clearly someone who totally understands the dimensions of risk confronting financial institutions, and has thought deeply about it. His message: the only way to survive the next crisis, which can’t be predicted, is to know your extreme-tail risk now and manage it proactively. Drawing on extensive experience (including 14 years at Citicorp where he was once CFO of its global investment bank and where he developed the interest-rate-gap management approach), Mr. Paul eloquently lays out in plain English, free of technical jargon, a new approach to managing extreme-tail risk. Supplemented by real-life stories and analogies, it’s an original and easy read for directors, senior managers and regulators." - Lawrence Baxter, William B. McGuire Professor of the Practice of Law at Duke University

Ratings and Reviews