A Demon of Our Own Design (2007) is a book by veteran Wall Street
risk manager Richard Bookstaber, about, as the subtitle says, "markets,
hedge funds, and the perils of financial innovation."
The theme of the book is that the world financial system is vulnerable to singularities—disasters arising out of apparently trivial details, as implied by chaos theory and its Butterfly effect.. He discusses the critical and often underappreciated role of liquidity in the markets and presents a theory of 'normal accidents' arising from the combination of tight coupling and complexity. Bookstaber reviews accidents such as Three Mile Island, ValueJet andColumbia
The efficient market hypothesis comes under attack in this book using biological and evolutionary analogies. He suggests that overspecialization to an environment leads one vulnerable to change. Therefore, the best adaptive approach is often to have a 'coarse' approach that may ignore fine grained stimuli.
Risk management, however sophisticated it is or can become, won't end this vulnerability. To the contrary, "the more intricate risk-management structures may actually make the system worse."
The dust jacket of the book carries a detail of [the painting] "The Fall of Icarus," by Jacob Peter Gowy.
Bookstaber had a front-side seat for such crises as the stock market crash of 1987 and the demise of Long-Term Capital Management and his book is built around themes drawn from those experiences.
Editorial reviews summarized
on Amazon.com:
"A risk-management maven who's been on Wall Street for decades…Bookstaber's book shows us some complex strategies that very smart people followed to seemingly reduce risk—but that led to huge losses." (Newsweek)
"Mr. Bookstaber is one of Wall Street's 'rocket scientists'--mathematicians lured from academia to help create both complex financial instruments and new computer models for making investing decisions. In the book, he makes a simple point: The turmoil in the financial markets today comes less from changes in the economy--economic growth, for example, is half as volatile as it was 50 years ago--and more from some of the financial instruments (derivatives) that were designed to control risk." (The New York Times)
"Bright sparks like Mr Bookstaber ushered in a revolution that fuelled the boom in financial derivatives and Byzantine 'structured products.' The problem, he argues, is that this wizardry has made markets more crisis-prone, not less so. It has done this in two ways: by increasing complexity, and by forging tighter links between various markets and securities, making them dangerously interdependent." (The Economist)
"He understands the inner workings of financial markets...A liberal sparkling of juicy stories from the trading floor..." (The Economist)
"…smart book…Part memoir, part market forensics, the book gives an insider's view…" (Bloomberg News)
"Like many pessimistic observers, Richard Bookstaber thinks financial derivatives, Wall Street innovation and hedge funds will lead to a financial meltdown. What sets Mr. Bookstaber apart is that he has spent his career designing derivatives, working on Wall Street and running a hedge fund." (The Wall Street Journal)
"Every so often [a book] pops out of the pile with something original to say, or an original way of saying it. Richard Bookstaber, in A Demon of Our Own Design: Markets, Hedge Funds, and the Perils of Financial Innovation, accomplishes both of these rare feats." (Fortune)
"a must-read amidst the current market chaos" (BusinessWeek.com)
"Bookstaber is a former academic who went on to head risk management for Morgan Stanley and now runs a large hedge fund. He knows the subject and has written a lucid and readable book. To his aid he calls mathematics (from Bertrand Russell to Godel's theorem); physics (particularly Heisenberg's uncertainty principle); and even -- meteorology." (Financial Times)
"The book covers a lot about risk management that is relevant to capital markets conditions today and the liquidity crisis." (Financial Times, Saturday 25th August)
"...an insider's guide to markets, hedge funds and the perils of financial innovation. We saw plenty of those in 2007." (The Sunday Telegraph, Sunday 25th November 2007)
"I cannot recommend this book too highly. It is a clear exposition of what the combination of derivatives, leverage and hedge funds can do to the markets.
In short, A Demon of our Own Design is a guide to the dangerous financial markets we have created for ourselves by the clever innovations of structured finance, derivatives, credit default swaps and other newfangled products that are a mystery to the ordinary investor and even plenty of the sophisticates in the investment business. To understand the demonic risks we're taking, read this book."--Forbes.com
The theme of the book is that the world financial system is vulnerable to singularities—disasters arising out of apparently trivial details, as implied by chaos theory and its Butterfly effect.. He discusses the critical and often underappreciated role of liquidity in the markets and presents a theory of 'normal accidents' arising from the combination of tight coupling and complexity. Bookstaber reviews accidents such as Three Mile Island, ValueJet and
The efficient market hypothesis comes under attack in this book using biological and evolutionary analogies. He suggests that overspecialization to an environment leads one vulnerable to change. Therefore, the best adaptive approach is often to have a 'coarse' approach that may ignore fine grained stimuli.
Risk management, however sophisticated it is or can become, won't end this vulnerability. To the contrary, "the more intricate risk-management structures may actually make the system worse."
The dust jacket of the book carries a detail of [the painting] "The Fall of Icarus," by Jacob Peter Gowy.
Bookstaber had a front-side seat for such crises as the stock market crash of 1987 and the demise of Long-Term Capital Management and his book is built around themes drawn from those experiences.
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“Mr. Bookstaber wrote one of the
best books about the causes of the financial crisis, A Demon of Our Own Design,
and did so before the crisis erupted.”-- Floyd
Norris , New York
"A risk-management maven who's been on Wall Street for decades…Bookstaber's book shows us some complex strategies that very smart people followed to seemingly reduce risk—but that led to huge losses." (Newsweek)
"Mr. Bookstaber is one of Wall Street's 'rocket scientists'--mathematicians lured from academia to help create both complex financial instruments and new computer models for making investing decisions. In the book, he makes a simple point: The turmoil in the financial markets today comes less from changes in the economy--economic growth, for example, is half as volatile as it was 50 years ago--and more from some of the financial instruments (derivatives) that were designed to control risk." (The New York Times)
"Bright sparks like Mr Bookstaber ushered in a revolution that fuelled the boom in financial derivatives and Byzantine 'structured products.' The problem, he argues, is that this wizardry has made markets more crisis-prone, not less so. It has done this in two ways: by increasing complexity, and by forging tighter links between various markets and securities, making them dangerously interdependent." (The Economist)
"He understands the inner workings of financial markets...A liberal sparkling of juicy stories from the trading floor..." (The Economist)
"…smart book…Part memoir, part market forensics, the book gives an insider's view…" (Bloomberg News)
"Like many pessimistic observers, Richard Bookstaber thinks financial derivatives, Wall Street innovation and hedge funds will lead to a financial meltdown. What sets Mr. Bookstaber apart is that he has spent his career designing derivatives, working on Wall Street and running a hedge fund." (The Wall Street Journal)
"Every so often [a book] pops out of the pile with something original to say, or an original way of saying it. Richard Bookstaber, in A Demon of Our Own Design: Markets, Hedge Funds, and the Perils of Financial Innovation, accomplishes both of these rare feats." (Fortune)
"a must-read amidst the current market chaos" (BusinessWeek.com)
"Bookstaber is a former academic who went on to head risk management for Morgan Stanley and now runs a large hedge fund. He knows the subject and has written a lucid and readable book. To his aid he calls mathematics (from Bertrand Russell to Godel's theorem); physics (particularly Heisenberg's uncertainty principle); and even -- meteorology." (Financial Times)
"The book covers a lot about risk management that is relevant to capital markets conditions today and the liquidity crisis." (Financial Times, Saturday 25th August)
"...an insider's guide to markets, hedge funds and the perils of financial innovation. We saw plenty of those in 2007." (The Sunday Telegraph, Sunday 25th November 2007)
"I cannot recommend this book too highly. It is a clear exposition of what the combination of derivatives, leverage and hedge funds can do to the markets.
In short, A Demon of our Own Design is a guide to the dangerous financial markets we have created for ourselves by the clever innovations of structured finance, derivatives, credit default swaps and other newfangled products that are a mystery to the ordinary investor and even plenty of the sophisticates in the investment business. To understand the demonic risks we're taking, read this book."--Forbes.com
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