How Financial Experts Bamboozle the Public

Money pros had been taken to the woodshed according to the Global Association of Risk Professionals. (hat tip EPJ) [bold mine]

Americans would like an apology from Wall Street for the financial crisis.

They probably aren't going to get it.

But how about giving the number crunchers and investment managers a "time out" to reflect a little on the era of financial alchemy and greed that did so much damage?

That's what was happening in Chicago this week, where about 2,000 of the financial industry's quantitative minds and investment professionals gathered for their annual CFA Institute conference. They got some verbal punishment from some of the industry's stalwarts, who were admonishing their chartered financial analyst peers to think rather than allow mindless financial models and dreams of success to drive them to endorse the kinds of aggressive investment decisions that can create riches for themselves -- and destroy wealth for others.

"If you are attracted to a job in finance because the pay is so generous, don't do it," said Charles Ellis, one of the elder statesmen of the profession. "That's a form of prostitution."

Rather, Ellis said, his profession needs to return to the days he knew in the 1960s, when the emphasis was on counseling investment clients and not on churning out esoteric products and pushing people to buy them blindly.

Today the emphasis too often is on "complexity rather than common sense," said James Montier, asset allocation strategist for investment manager GMO. "In finance, we love to complicate. We rely on complexity to bamboozle and confuse."

In the local arena, such conflict of interests has hardly been about “churning out esoteric products” but about the pervasive cheerleading of politically colored quack statistics into “pushing people to buy them blindly”. "Them" here is applied to conventional financial assets.

More on the use of aggregate model based analysis:

Too many in his profession, Montier said, are trying inappropriately to apply physics to investing, where it doesn't belong, and they are ignoring inconvenient truths. Complex mathematics is valued but not necessarily used honestly, he said.

"A physicist won't believe that a feather and brick will hit the ground at the same time, and they won't use models to game the system. But that's what finance does with models," Montier said. "They take them as though they are reality."

Montier, speaking to financial professionals who design, evaluate and sell investment products to individuals and institutions, warned that all professionals in finance need to be thinking more, rather than following the herd.

"Who could have argued that CDOs were less risky than Treasurys with a straight face?" he said. But that's what happened. "Part of the brain was switched off, and people took expert advice at face value.

True. Mathematical and statistical formalism serves as the major instrument used by “experts” to hoodwink the vulnerable public on so-called economic analysis. The public is usually awed or overwhelmed by facade of numerical equations and economic or accounting terminologies.

These experts forget that economics hasn’t been about physics but about the science of incentives, purposeful behavior or human action.

As the great dean of Austrian school of economics wrote, (italics original, bold mine)

Indeed, the very concept of "variable" used so frequently in econometrics is illegitimate, for physics is able to arrive at laws only by discovering constants. The concept of "variable," only makes sense if there are some things that are not variable, but constant. Yet in human action, free will precludes any quantitative constants (including constant units of measurement). All attempts to discover such constants (such as the strict quantity theory of money or the Keynesian "consumption function") were inherently doomed to failure.

Governments love Wall Street models too

Government regulators and the Federal Reserve are guilty, too, of blindly putting their confidence in flawed models, he said. And if his profession and the regulators continue to ignore the dangers of financial concoctions involving massive leverage and illiquid assets, financial companies again will create an explosive brew that will result in calls for another government bailout.

This means because authorities has embraced economic bubble policies as a global standard, which engenders boom bust cycles, we should expect more crisis ahead. Thus the prospective “calls for another government bailout.”

To add, in reality, the government’s love affair with models has been undergirded by an unseen motivation: the expansion of political power.

Every crisis bequeaths upon the governments far broader and extensive social control over the people via bailouts, inflation, more regulations higher taxes and etc...

This legacy quote from a politician, during the last crisis, adeptly captures its essence

You never want a serious crisis to go to waste..This crisis provides the opportunity for us to do things that you could not do before.

Bottom line: many financial experts seem to in bed with politicians to promote political agendas either deliberately or heedlessly. Thus, financial expert-client relations usually embodies the principal-agent problem.

Nassim Taleb would call such mainstream experts as having "no skin in the game", thus would continue to blather about nonsense while promoting fragility.

Finally one doesn't need to be a CFA to know this. As James Montier in the above article said it only takes "common sense" which experts try to suppresss with "complexity". 

I would add to common sense; critical thinking.