Chapter 5
Practical Risk Techniques
The discussion so far has been how to think about risk and uncertainty in general terms. We now turn to the specifics of financial risk measurement and management. We introduce in this chapter some of the tools of quantitative risk measurement and show how they apply in practice. The goal is to present the ideas and intuition, showing how the tools are used, and to avoid mathematical and technical complication. The details, the mathematical background and formulae, are absolutely important, but these details are left for later chapters.
This chapter is aimed at two audiences, two groups that often speak different languages and inhabit different worlds, but groups that need to work together for the effective management of risk.
The first group are the managers running the firm, trading desk, or portfolio. These managers make the business decisions but often will not have strong technical training—they are consumers of risk measurement services rather than producers of them.
The second group is the risk professionals, or quants, responsible for producing the risk reports and other services. They will generally have a strong technical and mathematical background but often will have less experience in managing a business, communicating ideas in a nontechnical way, and the soft skills of interpersonal interactions.
My goal for both groups is to explain how to think about and use the quantitative tools such as volatility or VaR (value at risk). Each ...
