Risk Management After Lehman

Can the constants used by quants and risk managers be trusted in the post-Lehman environment? Chris Schlegel of Southern Company looks at some of the pitfalls risk managers need to look out for when using constants and assesses why they are both vitally important, but equally ill-behaved if not used with care

For all who thought it was money that makes the world go ‘round, bad news: it is in fact constants. Not the respectably stable constants like gravity, but that whole crew of potentially ill-behaved hooligans that need to be carefully estimated to make applied finance possible: volatility, jumps, correlations, and the like. Look deep enough into any risk model, there they are.

The billion-dollar question for us is do we still trust them, after Lehman, AIG, and a swing in basic commodity prices