On the negative concavity of sentences with improperly nested prepositional phrases of jargon and discussing complex issues.
National treasure Mark Kleiman
directs me to national treasure William K Black (of whose existence I was unaware). Black appears to be a stunningly brilliant accountant ?!?!?!? who saw the S&L crisis coming. Kleiman flags Black largely because Black has the goods on McCain.
William Black (not to be confused with Fisher Black) explains the foolishness of relying on models to price financial assets (I'm being unfair. actually Fisher was well aware of the folly of people who justified their recklessness by appealing to his academic research).
The basic point is that regulators must not allow investment banks to use proprietary models to value their assets, because the properties of proprietary models belong to the proprieters which perpetuates perilous improprieties. It's like having the fox count how many chickes are left in the chicken coop.
Now I am going to complain that Black's English is unclear with persnickity picayune pignoloria. Consider
Consider, particularly given federal pay caps and the extraordinary salaries on the Street for those with advanced skills in constructing models, how impossible it becomes for regulators to try to prevent this abuse (even if they had meaningful regulatory authority over investment banks). Consider the practicalities of trying to explain, and prove, to a judge that the properietary model understates risk by assuming a normal distribution when in fact the tails are unusually fat and truncating the distribution at 95% (which is still common with Value at Risk (VAR) models).
After much effort, I realize that this sentence makes sense if prepositional phrases are clearly indicated say [with square brackets] nested, if necessary ((in double parentheses [with the risk of confusion])). My keyboard doesn't support curly braces.
"Consider the practicalities of trying to explain, and prove, [to a judge] that the properietary model understates risk ((by assuming a normal distribution [when in fact the tails are unusually fat] and truncating the distribution at 95%)) (which is still common with Value at Risk (VAR) models)."
The problem is that there is nothing in English which corresponds to the second ], so the sentence, as written, must be read
"Consider the practicalities of trying to explain, and prove, [to a judge] that the properietary model understates risk [by assuming a normal distribution when in fact the tails are unusually fat] and truncating the distribution at 95%] (which is still common with Value at Risk (VAR) models)."
That is as asserting that the fat tails are truncating the distribution (fat they may be but they are also sharp). English does not support nested prepositional phrases. The sentence can be made comprehensible using standard English by adding the word "by" -- just two letters as in
Consider the practicalities of trying to explain, and prove, to a judge that the properietary model understates risk by assuming a normal distribution when in fact the tails are unusually fat and by truncating the distribution at 95%] (which is still common with Value at Risk (VAR) models).
Which is unambiguously
Consider the practicalities of trying to explain, and prove, [to a judge] that the properietary model understates risk ((by assuming a normal distribution [when in fact the tails are unusually fat])) and ]by truncating the distribution at 95%] (which is still common with Value at Risk (VAR) models).
So then I say WHHHHHAAATTTTTT they truncate the tails in Value at Risk models !?!!?!?!! You have got to be kidding me !!?!!?!?!! The whole point of assessing risk is to avoid going bankrupt when one of the fat but sharp tails slashes your equity. This has to be a joke right ????
Back to English
"Then add in trying to explain why the negative convexity of the implied prepayment option in (U.S.) mortgage instruments"
In English "negative convexity" is called "concavity" just as "negative up" is called "down". Now I think I understand what Black means. The value of the implied prepayment option is a convex function of an underlying variable (an interest rate -- I want to repay if I can refinance at a lower rate). This convexity is negative for the owner of the mortgage bond, because the bank have written the options. The value of the mortgage bond is therefore concave in the interest rate. This means really low interest rates hurt bondholders as the value of the option they have given to homeowners increases. Also really high interest rates are, as always, bad for bondholders because the bonds are long term nominal assets.
Look, if you even think of trying to explain these things to a judge, you have to learn how to avoid nested prepositional phrases and newly invented phrases like "negative convexity" which cause negative clarification.
This is important, because Black does indeed have the goods on McCain and he better learn how to explain himself to voters who are less attentive than judges and maybe even to journalists (a negative probability event ?).
