Posts Tagged ‘Business’

Edition 49 – The business of carbon pricing

Sunday, April 10th, 2011

Business21C Weekly is available through the iTunes Podcast directory. To subscribe directly via iTunes, go to the Advanced menu in iTunes and select Subscribe to Podcast. Then paste in the following URL: http://www.business21c.com.au/podcasts/feed

Business21C Weekly is broadcast on Sydney’s 2SER 107.3 fm radio station at 9:00 am each Monday morning.

This week’s edition of Business21C Weekly gets to grips with clean energy and carbon pricing.

Globally, the predicted value of the clean energy industry is $2.2 trillion US dollars within five years. That’s the size of the Brazilian economy – and twice the value of Australia’s GDP.

So, is clean energy investing the new gold rush, and is Australia doing enough to make sure it gets its slice of the action? Where does a carbon price fit? And can we ever hope to compete with the deep pockets and economies of scale of the likes of China?

We talk to two investment experts who specialise in the sector: Tim Buckley, Joint CEO of Arkx Investment Management and Martin Rushe, Managing Director of Moss Capital. Taking both a global and the local perspective, Tim and Martin outline the considerable opportunities they see, should Australia establish an appropriate regulatory framework. And to both, a carbon price is clearly a key part of the solution.

We are also joined by Lance Crocket, General Manager of Pacific Hydro Australia, operators of hydro electric and wind plants in Australia and internationally. Lane talks about what it is like to compete on the world energy market and how he sees the potential for Australia’s clean energy sector as the global industry explodes.

Getting the most from next generation workers (part 2)

Friday, February 18th, 2011

In part one, Kelly Bayer-Rosmarin from the Commonwealth Bank of Australia presented two strategies for getting the best from NextGen workers: treating everyone as individuals, and keeping the job interesting and fresh. Here she raises two equally important challenges: creating a fast track, and giving quality performance feedback.

Create a Fast Track

Non-NextGens remember a world where gratification could be delayed. They may remember writing physical letters that were sometimes sent via ship overseas, using telephones with cords and dials and spending hours in the public library to find books and look up facts. In that world, supermarkets were closed on Saturday afternoons as well as Sundays and public holidays, homework was hand-written, and there was no internet, no text messaging, no Twitter.

We all recognise the world has sped up, and NextGens simply do not understand the need for things to take time. Email, mobile phones, Facebook, the internet, extended shopping hours, etc. all provide for a world where the pace of life is not constrained.

Add to that a belief that ability, not tenure, is what adds value to an organisation, and you get a generation of workers who expect to be fast-tracked if they perform. The traditional notion of putting in your time and being rewarded for tenure is just not something appreciated by NextGens; in their world meritocracy is what prevails, and all ideas are equal, whether they come from the senior most or junior most person; those whose ideas and performance merits it, should be rewarded, regardless of their tenure.

So, create a fast track. Deliberately steer high-potential employees towards a greater diversity or depth of experience than others and make it clear they are being fast-tracked. Also make it clear what the expectations are and what they will need to demonstrate in each of their fast-track moves to retain that status and fast-track momentum. The combination of clarity of performance measurement, expectation setting, and orchestration of the set of experiences should help foster great talent for the organisation! And because you are clear about the criteria, it will be a fair system even though some are fast-tracked and others are not.

There are definitely jobs where experience is highly valued and where career milestones may still be appropriate after fixed timeframes (e.g. two years as an analyst before becoming an associate, two years as an associate before becoming a manager, etc). We all know that in reality, some people will soak up what they learn and be highly competent in two years, and others could work there for five years and never be ready for the next step.

So, another way to structure this is to more clearly define the competencies and experiences that should be acquired in the job before moving up. This will provide a framework for directing people’s learning and attention to the key elements of mastering their role, as well as give them interim milestones to achieve along the journey, thus helping the NextGens feel they are making progress.

Figure 1: Fixed timeframes for career progression

Click to enlarge

Figure 2: Progression based on experience / competencies

Click to enlarge

Regular Feedback

Another side effect of the modern culture of instant gratification is that NextGen employees expect immediate feedback (and lots of feedback). Gone are the days of the annual performance review. And that’s probably a good thing. Regular, constructive, clear feedback is critical for developing top talent (as any professional athlete will attest to) and so the onus is on managers to make time to notice what is working and not working and to provide feedback as they observe something, and otherwise in regular one on one meetings. Performance reviews should confirm the items that have been raised and monitor progress, not become meetings where issues are surfaced for the first time.

Most people appreciate praise, and this can certainly be done publicly. Criticism is harder and so I would advise all managers to arm up on the latest techniques (there are numerous ones) for how to provide feedback, coaching, mentoring, and constructive criticism as well as develop action plans. Having a range of techniques in this arena is simply good management, and NextGen managers will become very skilled in using these for their employees. The key is to provide the feedback in a way that the person understands it, is able to effectively respond and takes action to improve.

Conclusion

NextGen staff are highly desirable and can make a difference in your team and organisation. To help them thrive and get the most from their efforts, I have suggested four practical tips:

  • Treat each person in your team in a tailored individual way
  • Keep work fresh and interesting for your staff
  • Create clear expectations of what constitutes outstanding performance and facilitate a fast-track for those who meet those expectations
  • Provide regular high quality feedback for people so they can learn from their job and achieve their full potential

Finally, the best overarching advice is to try to enjoy managing NextGen teams. It is an experience that can challenge you, help you see new ways of working and develop your repertoire of management skills. And I believe those who master NextGen management will be poised to be terrific leaders for the future.

Edition 40 – Skateistan

Sunday, February 6th, 2011

Business21C Weekly is available through the iTunes Podcast directory. To subscribe directly via iTunes, go to the Advanced menu in iTunes and select Subscribe to Podcast. Then paste in the following URL: http://www.business21c.com.au/podcasts/feed

Business21C Weekly is broadcast on Sydney’s 2SER 107.3 fm radio station at 9:00 am each Monday morning.

This week, Business21C Weekly talks to Oliver Percovich, founder and director of Skateistan, Afghanistan’s first skating school and a not-for-profit organisation working in Kabul. The idea behind Skateistan is to not only provide skateboarding lessons, but to also provide education to children, both girls and boys. For one hour of skating completed, one hour of school class must also be done.

Jochen Schweitzer used this group as a case study for a postgraduate marketing class at UTS. Two students had the brief to provide recommendations to be implemented to this not-for-profit skateboarding school in Afghanistan. Suzie Hollott and Julian Ryan approached issues to identifying and solving problems with this interesting case study, and discuss their experiences with Kirsten Lees.

Creative Innovation 2010, the wrap

Friday, October 1st, 2010

What kind of man walks onto a stage in a foreign city – where he has few acquaintances and fewer friends – and declares the newly opened public building in which he is standing an architectural mish mash? What kind of a speaker at a creativity conference declares the ‘chucking around of paint around should be confined to nursery schools and universities but the bit in the middle is about learning what needs to be learned’.

The event was Creative Innovation 2010, hosted by leading members of Melbourne’s art and business community, headed by leading Soprano and social entrepreneur, Tania de Jong.

The speaker was Austin Williams, Director of the Future Cities Project, in the UK and author of The enemies of progress, (Societas, Exeter, 2008). For the first hour of deep conversation during which he shared a stage with Edward de Bono and Rufus Black, Rhodes Scholar and Master of Melbourne University’s Ormond College, the audience would have been forgiven for thinking Williams had walked on to the wrong stage at the wrong event.

‘Excuse me, sir, the conflict resolution course meets next door.’

I would venture to argue that Williams was in exactly the right place at exactly the right time, and indeed cleverly placed by the conference organisers.

Why? Well let’s start with the words ‘creativity’ and ‘innovation’. Put the two together, add the name of just about any industry, and you’ve got the title of at least ten conferences in Australia alone, this year – back of the envelope calculation, granted.

We’ve had creative innovation in design, in accounting, in management consulting, in education, in health, we’ve had regional innovation events, skills creativity events, innovation for the young, the old and the young at heart. Business21C can put its hand up for hosting its own creative and innovative event this year, innovatively disguised ‘funky thinking’.

In fact, there’s been so much talk about creativity and innovation since the GFC undermined our belief in the financial system, that quite possibly the least creative thing you can do right now is host an event with either of those words in the title.

But de Jong and her colleagues recklessly put the two words together and staged an creative innovation extravaganza at Melbourne’s newly built Recital Hall, last month. And they pulled it off with style.

CI2010 worked. More than that, in places it was fabulous. One session even got a standing ovation – and that doesn’t happen often when there’s a management consultant on the platform. I have been trying to fathom why. It was not the impressive list of speakers. After all, in 2010 event organisers have to compete with the likes of TED.com who provide brilliant speakers 24 hours a day to a broadband connection near you. It wasn’t the musical interludes that punctuated the proceedings gracefully, either. It was, I believe, how the speakers were put together on stage: the brilliant and the brilliantly bolshie, the creative and the critical. And kept there. Panel sessions were up to two and a half hours long. No whack-up-your-powerpoints,-say-your-piece-and-sneak-off. Speakers spoke, and the audience drilled. Uncompromisingly, sometimes less than coherently, but relentlessly, for three whole days.

During that time, more than 30 speakers covered topics as diverse as pig farming, mental health, responsible design, irresponsible design, education, play, meditation, neuroscience and brand building for cities. And, in some miraculously found moments between all that content, we were entertained and soothed by a variety of artistic pursuits rarely associated with business discussion, from cartooning to piano, singing and painting.

But why are innovation and creativity taking up so much airtime in business discourse?

Either we are determined to become socially and environmentally responsible all of a sudden, or developed economies are waking up to the thought that they have to come up with new ideas to remain globally competitive. (After all, Australia, you can’t keep digging stuff out the ground and flogging it on, forever.)

The two schools of thought on this go something like…

  1. Western economic nations have painted humanity into a tight corner with their focus on growth, consumption, more growth, more consumption. We are running out of just about everything we need to survive as a species: space, water, fuel, food, clean air. This is a big thorny problem, one that some say can only be tackled by new kinds of thinking.
  2. It’s a matter of economic competitiveness. Take a look at statistics on patent registration around the world. Now compare them to those on national economic growth. There is a correlation. China, India and Korea have shown five, three and two and a half fold growth in the number of patents registered per capita of population in recent years. In developed nations, patent registration is slowing. In the UK and in Japan there’s negative growth. It seems, perhaps, new ideas are drivers of economic growth.

Whatever the reason, creativity and innovation are without doubt the new business black. But does the constant picking over of what creates creativity and sparks innovative thinking work? Or is it mid-life crisis navel gazing of mature economies in search of meaning?

To Austin Williams our potential to innovate is massively restricted by risk averse, precautionary parameters about what innovation should look like: sustainable, responsible, socially acceptable, for starters. Creativity, he says is stifled from birth.

But that’s just what he says. Thirty other speakers gave their insights and thoughts on creative thinking and innovative thinking practice over the three days of Creative Innovation 2010. Some agreed with Williams, some didn’t. But it was the diversity of thought and the opportunity to challenge that set CI2010 apart. Without critical thought and the confidence to challenge, can there be true creativity or meaningful innovation?

Short summaries of some of speakers key points are below. Videos will be online shortly and we’ll link to them as soon as they are. Have a browse, and see what you think.

Professor Jonathan West, Australian Innovation Research Centre, The innovation myth

The myth of innovation is that it arises from creativity. Innovation results from a lot of hard work over a long time, testing, creating and commericialising. Innovation is about changing the system into which the innovation plays. The 3 most important innovations of 20th century are: fixing energy into nitrogen, the atomic bomb, and containerisation (the container system for transport). In common they have the creation of a large scale and complex system to support them. For containerisation, it was a matter of reengineering a whole international infrastructure: ships, ports, dockers, trains, trucks and so on, but once achieved, global trade exploded.

We live in a complex world, with complex systems. Innovation is inefficient because it is about system change and we design our systems to be impossible to change.

Andrew MacLeod, CEO, Committee for Melbourne, Melbourne Innovative City

Presented the concept that the branding for the city of Melbourne should be the new paradigm in internatonal aid – to foster private and public sector development for investment, and for Melbourne to become to private sector investment and administration of international aid, what Geneva is to public sector investment and administration of aid.

Edward de Bono, Rethinking the future

Climate change is not the biggest problem facing humanity – the poor quality of our thinking is. And the fact that we don’t understand just how poor it is. Creative thinking has been trained out of us, because it hasn’t been valued. Now we need a Palace of Thinking where new ideas can be looked at and explored. Only by improving our thinking can we improve the ways we deal with some of the big issues facing us.

Michael Smith, CEO, ANZ Bank, Innovation and the rise of Asia – new opportunities, new risks

The rise of Asia offers new opportunity and new risks for business. ANZ Bank is one of fastest growing banks in Asia. Any large business that does not have a strategy that engages in Asia is exposing itself to risk. Successful strategies to compete in the Asian market must be innovative.

What do you need to innovate:

  • Shared mindset
  • Shared logic
  • Shared discipline (how to collaborate and create new knowledge accross organisations, not just recreating existing knowledge.

Claire Penniceard, Pork farmer, Failure, farming and food security

Claire Penniceard bred and raised hardy independent self managing beef cattle, on a zero input enterprise – no supplements no hay, no fertilizers. She bred grand champions but it was not economically or environmentally sustainable. She was the best, but the best was not good enough.

Having explored issues of dietary energy and food security around the world within parameters like environmental sustainability and animal friendliness, she walked off her successful beef farm to go into pig farming. It takes 74 of best beef farms to equal in production what one great pig farm does. Now she produces nine million dollars worth of export quality pig. They are housed and managed to enact all their natural life.

Dr Peter Farrell AM, CEO, ResMed, Innovation and entrepreneurship, the engines of economic growth

Entrepreneurs are often considered to be risk takers. They are not. They are opportunity seekers. Innovation is not creativity but requires it. Innovation occurs when a concept is anointed by the marketplace, when someone writes you a cheque. When we apply a new technology to something we know it’s called productivity, but when we apply it to something new it’s called innovation.

Stefan Cassomenos, Pianist, conductor, composer, From improvisation to composition

Failure is part of the creative process, and Cassomenos believes his entire process of composition depends on failure in some way before creativity is born.

Professor Patrick McGorry, Executive Director, Orygen Youth Health, Australian of the Year, Mental health and mental wealth

Australia’s health is its greatest natural resource, yet mental health is seriously neglected. It effects four to five million Australians and is the greatest killer in Australians under the age of 40.

Yet in terms of mental health care, an apartheid system exists: compare the facilities provided, staff numbers, visitors even flowers delivered to a patient with breast cancer, to those someone hospitalised for a mental health problem receives.

Professor Stephen Heppell, Director, ULTRALAB, Playful learning and why we all need cheering up

Play in learning is joyful, it surprises, challenges and engages. It teaches us to cope with the unexpected. Yet we lose sight of playfulness on our learning journey through life. We have to put play back into the centre of learning if we are going to be flexible thinkers, able to cope with change and with the unexpected.

Professor Peter Shergold, AC, The Centre for Social Impact, Empowering communities to transform democracy

Exciting and innovative stuff happens at the margins often on poorly funded pilot programs, where needs are greatest. The challenge for Australia is to become a hot bed of social innovation – political innovation and community innovation, drawing on a history of such initiatives as bush nursing.

Mark Scott, Managing Director, ABC, Building the digital town square

Fifty people in rural Australia are taking production skills and facilities to the communities, teaching people to put their stories online. If we can collaborate and share our stories we will understand each other more and have a real national conversation recognising the choice and expertise of the community is just as interesting as anything the ABC has to offer.

The experience of the Q&A audience which is growing every week has shown the value of audience led current affairs.

The future is not a place we are going is a place we are making.

Austin Williams, Director, Future Cities Project, Constructing communities, a contradiction in terms?

What is it about communities that politicians are trying to capture and bottle and sell back to us as the elixir of new ways of living? Why is it the community motif which means local and parochial is becoming central to national agenda? Three key elements of a healthy community are: voluntarism, purposefulness and autonomy. Initiatives like the big lunch which funded neighbourhood lunch events in the UK, are corrosive and insular. Is the world around you your neighbourhood or is it a bigger place? Communities are things of flux and change and should transcend the merely local. We are being taught to be good citizens rather than to be educated citizens – but through education comes citizenship.

David Rock, CEO, Results Coaching Systems, The neuroscience of creativity

We have a very small capacity for solving problems in a linear way. Most of the problems we solve at work are too big for our conscious resources so we have to access the unconscious which, relative to the conscious area of the brain is like tapping into the Milky Way.

The neuroscience of insight is the culmination of five years of study on how we can have more insights.

The four faces of insight are:

1. Awareness of an impasse, you need to stop and focus on what is not working.

2. Reflection reflection is required for insight to occur, because insight requires low electrical activity. Insights like the ring of a quiet mobile phone at loud party. Anxiety stops insights because it creates electrical signals which can drowned out the quiet electrical signals of insight.

Reflection is internally focussed. It’s relaxed and low effort.

You only need about 2 seconds of quiet to have the insight

Even a tiny threat can inhibit problem solving and insight.

3. Insight, at the moment of insight, dopamine-like substances are released. Having an insight changes the brain and packs a lot of positive energy.

4. Action, insight brings short term urgency for action. Action increases attention density. Attention density deepens insight.

Michael Rennie, Managing Partner, McKinsey and Co, Necessity is the mother of invention

Working at McKinsey and Co is working with the crack troops of western capitalism. Yet Managing Partner, Michael Rennie talked about bringing love to business – a place where there is more likely to be fear. There are two parts to innovation – the creative idea and and making the idea useful and applied. We are all creative. We don’t allow for reflection at work and most of our insights don’t happen at work.

Business21C was a sponsor of Creative Innovation 2010.

The data mining revolution

Tuesday, September 14th, 2010

We’re generating terabytes of data every minute. Figuring out what it all means will be the next gold rush, says Daniel Poon.

One of my clients, a large US conglomerate, had just acquired and integrated several gardening-equipment businesses. Due diligence had been undertaken and due process followed, but it wasn’t until much later the company discovered that thanks to product misclassifications, it was now the proud owner of no less than four million plastic planting pots, stacked in warehouses across the country.

Another case: a telco giant, while analysing calls data, discovered rampant misuse of an unlimited calling plan through calling cards. When it looked a bit closer, it found that the Mexican mafia was using the product to wholesale telephone capacity to retail customers at substantial discounts. Then, when it came time for them to pay their bills, they disappeared.

These are just two examples of the major opportunity and challenge for large organisations today: how to sort and analyse the increasingly large volumes of data they collect in ways that reveal the company’s real situation.

At the moment, business sits at the bottom of the business intelligence curve. The technology for gathering and storing data has accelerated over the past decade. Examples of the tidal waves of data engulfing the business world are abundant: Walmart handles more than one million customer transactions each hour and its databases are estimated to contain 165 times the information contained in America’s Library of Congress. Facebook is home to 40 billion photos and counting. Decoding the human genome involves analysing three billion base pairs; the first time it was done, in 2003, it took 10 years. Today it takes a week.

We can now store more data than we ever imagined possible, and our analytical capabilities are way beyond where they were just five years ago. The problem for organisations is mobilising those capabilities into actionable intelligence. We have solved the scaling problem – how to store terabytes of data in easily accessible, classifiable ways – but solving the intelligence issue is an ongoing project with huge implications for the efficiency of business.

Multiple versions of the truth

Most organisations haven’t got to square one with an integrated data management and analysis strategy, or what is known as master data management (MDM). At a basic level, MDM seeks to ensure that an organisation does not use multiple (potentially inconsistent) versions of the same master data (eg, product definition, business unit hierarchy, cost-centre business rules and the like) in different parts of its operations.

A simple but common example of poor MDM is when the chief financial officer asks a simple question: ‘What is the year-to-date product revenue of our company?’ The corporate controller at headquarters reports $12.1 million. The vice-president of sales reports $14,001,234 and the regional controller reports $10,800,678.

How could there be three such different answers?

The answer lies in the fact that each finance group is measuring results in a different way. The corporate controller may have reported a rounded GAAP (generally accepted accounting principles) number prepared for the Securities and Exchange Commission (SEC). The vice-president of sales’ figure included intercompany revenue, which should be eliminated. The regional controller took into account some of the deals that will be closed for the quarter but in which product has yet to be shipped. Although a single of version of the truth is assumed, it rarely exists. Reality depends on perspective and context:

  • Varied sources: product revenue may be reported from the booking or order entry system as opposed to the billing or invoicing system.
  • Varied business rules: business entities are rolled up differently. For example, headquarters often roll up entities differently than the functional business.
  • Varied assumptions: different groups tend to include or exclude certain business events, therefore generating different information.
  • Varied time of reporting: information reported at different times can produce different results.
  • Varied accuracy: not all information is measured at the same level of granularity.

As a result, while data quality at data-entry level may be relatively easy to control, interpretation and analysis of the information provided by different groups without any common guidelines leads to incorrect reporting and, eventually, incorrect decisions. MDM will be a hot topic for the coming decade.

The development of business processes that actually enable analysts to gain useful insight from the mountains of numbers sitting in our data warehouses remains in its infancy. The evolution of data mining will be one of the great productivity revolutions of the next decade.

It will first take the form of an expansion in the number of standard-use cases from which companies will be able to draw. Back in the 1980s, if you wanted to analyse what your gross margin, divisional profitability or overhead attributable was in relation to a particular product line, the project might take weeks or months. Today, it is done at the press of a button.

Other more complex queries, such as profitability per customer, may still take weeks or require a complex project of their own to answer. Very soon, however, even the most complex business analysis will be standardised, with the information scraped out of the data warehouse and put together by business intelligence bots that come standard with any of the major enterprise systems.

Already, web-based business dashboards, combined with social networking tools and strategic communication technologies, are spreading business numeracy and stimulating people who wouldn’t otherwise be thinking about business intelligence to develop queries and refine their business strategies using real data.

But there is still much to be done and huge productivity potential remains. The business intelligence revolution is here.

From the specific to the general

Tuesday, September 14th, 2010

The causes of the GFC are complex and interrelated. Although regulators across the globe are addressing many issues, they are paying little attention to at least three of the major ones, reports Professor Erik Schlögl.

‘Ban them!’ was the cry from commentators and regulators as the Global Financial Crisis subsided and scapegoats were sought. Fingers pointed at practices such as short-selling, credit derivatives and mortgage securitisation – the direct causes of many symptoms of the crisis. Yet by focusing regulatory efforts on these innovations, policymakers are at best restricting some of the transmission mechanisms of the recent crises, leaving the underlying causes unaddressed and the next crisis to manifest itself through other channels. They are, in other words, shooting the messenger.

The question is not, as former Federal Reserve Board chairman Paul Volcker asks: ‘How many other [recent] innovations can you tell me that have been as important to the individual as the automatic teller machine, which in fact is more of a mechanical than a financial one?’ Strong arguments can be made against Volcker’s implicit suggestion that financial innovation has been of little use (or worse) to society. More importantly, however, there are at least three significant issues with the way the financial markets operate that are not being addressed adequately by the policy measures currently under consideration in countries with developed financial markets.

Bad incentive structures

It is the nature of limited liability that it encourages risk-taking, and in many areas of entrepreneurial activity, this is certainly desirable. In the case of financial institutions, however, there has been too much willingness to take on risk, exacerbated by remuneration systems based on upside participation in the form of bonuses and a downside limited by an implicit government bailout guarantee. It’s a worn cliché, but in the GFC, we have seen a privatisation of gains followed by a socialisation of losses on an unprecedented scale.

Given the systemic importance of functioning financial institutions and the consequent necessity of explicit or implicit government guarantees, it would be naive to expect ‘the market’ to supply a solution to this problem without regulatory intervention. Risk, in particular the cost to the economy as a whole of the external impact of financial institutions’ excessive risk-taking, simply has not been priced correctly, leading to a classical case of market failure.

Through more stringent capital requirements, particularly for derivatives transactions, regulators have an instrument to impose a higher price for risk. However, there must also be closer oversight of banks’ internal systems to ensure that risk is priced consistently through the entire chain, from front office to back office, and that regulatory (or economic) capital requirements are taken into account, from the start – in the price calculations prior to entering into a transaction – to the end, when performance should be measured in terms of realised return on regulatory/economic capital.

With the right regulatory framework and proper accounting for risk, one would also expect financial institutions to shift resources – including in quantitative analytics – from front office/trading to risk management, which to date has been seen more as a cost (eg, through regulatory compliance) than as offering a potential for profit through an optimal use of economic capital.

Excessive use of leverage to enhance yields

The second issue that played a central role in the GFC and one that continues to be of concern is that hedge funds (or banks acting like hedge funds), having identified small inefficiencies in the market, seek to exploit these through highly leveraged positions. This works well in theory – in fact, the theory of efficient markets relies on inefficiencies being immediately exploited and the market thereby being returned to equilibrium – but in practice, it leads to major exposure to ‘model risk’ (ie, the risk that the assumptions underlying the trading strategies no longer hold) and is a primary vector for contagion between markets in a crisis.

Even though hedge funds are not banks, nor are their investors small depositors who need to be protected by the government, the high degree of leverage means that their activities potentially pose a systemic risk to the financial system. This is a lesson that should have been learned from the failure of Long-Term Capital Management in 1998, yet this historic hedge-fund failure and subsequent bailout had few regulatory consequences.

Feedback loops and ‘death spirals’

The hedge-fund-driven contagion between subprime mortgages and the equity market also illustrates the third burning issue: successful quant strategies, be it ‘statistical arbitrage’ prior to the GFC or ‘portfolio insurance’ prior to the 1987 stock-market crash, are quickly imitated, leading a significant portion of market participants to follow similar trades. This breaks the underlying assumption of these strategies – that the trades they prescribe will not move the market – and potentially leads to a disastrous feedback loop, causing the market to spiral ever downwards. Extreme market moves suddenly become far more likely.

This needs to be taken into account by regulators in their assessment of banks’ risk-management systems. Isolated analysis of each financial institution is not enough – the question that needs to be asked is how will the major market participants react in a given scenario of market stress, and what happens if they all react the same way?

Regulating to address the causes rather than the symptoms

The global financial system will remain vulnerable to further crises unless these underlying causes are addressed: regulators must impose improved capital requirements that enforce a correct pricing of risk in financial institutions, limit the leverage that these institutions and their major clients can employ, and take into account that risk-management strategies typically fail when they are pursued by a large proportion of market participants simultaneously. Banning one or another of the transmission mechanisms of the last crisis will not prevent the next one – which, given the increase in high-frequency and automated trading, may unfold in the course of minutes and seconds rather than at the relatively sedate pace of the GFC.