Contemptible supervision September 20, 2010 at 5:59 pm

The Economics of Contempt has an interesting post on supervising large banks:

First, significantly expand the dedicated supervisory teams for the dealer banks that qualify as Tier 1 FHCs. It’s not enough to have a 5-10 person supervisory team for dealer banks like JPMorgan, BofA-Merrill Lynch, Morgan Stanley, etc… The supervisory team for each Tier 1 FHC needs to have at least 50 people. Again, I am deadly serious.

Second, and most importantly, at least half of the supervisory team needs to be on-site full-time.

The reasoning is a little dodgy:

The banks’ trading books turn over constantly, and given how large these trading books have become (relative to the bank’s total consolidated balance sheet), the risk profile of a dealer bank can change very rapidly.

The key word here is ‘can’. The reality is that they don’t. While the microstructure of the book changes a lot, the big risks typically stay broadly the same, even if their sizes change a little. You would be surprised how repetitive the top ten risks report is from week to week.

Broadly speaking, though, I think the economics of contempt post is on to something. What you need is not lots of supervisors though, it is well qualified, tenacious supervisors. The Epicurean Dealmaker had it right when he wrote a little while ago

It’s time for the chickens to band together and hire themselves some foxes to guard the chicken coop.

In other words, some of the supervisors need to be real, honest to goodness traders. Ones who have run big books with complex instruments in them. Not superannuated cash equities traders from second tier houses or (Lord save and protect us) people who once spent an hour and a half on the government bond options desk at Goldie – no, people who have actually have run risk. I honestly think that that would be single most effective change many supervisors could make.

2 Responses to “Contemptible supervision”

  1. For the record, the supervisors DO employ a considerable number of staff with practical industry experience. We DO have former traders, and former risk managers, in the oversight of the capital markets activities of the firms. These folks have come from all of the major shops. Would we like more? Sure. I’d also love more IT specialists, more credit-trained folks, more practical fiduciary experts.

    But please remember that supervising a firm is different from running a firm: some industry hires cannot make the distinction quickly.

    What might be useful is if the firms ran their operations as if they were the owners.

  2. Fair enough… especially (but not exclusively) if the ‘we’ in question are the FED. I would say though that the prevalence of ex risk managers, as opposed to ex traders, in supervisors is quite noticeable. Risk managers are valuable of course, but at the end of the day, a wily ex fox is quite useful if you want to understand what a pack of foxes might get up to.