Risk Management Failures

Matthieu Bouvard, Samuel Lee and Itay Goldstein

The Review of Financial Studies, 2020, vol. 33, issue 6, 2468-2505

Abstract: We model risk management as information acquisition that delays trading decisions. In markets with preemptive competition, this can lead to a race to the bottom, where prioritizing trade execution over risk management is optimal for each firm, but collectively inefficient. As time competition intensifies, mean trading profit supplants risk concerns as the main driver of risk management quality, causing risk misallocation to rise with trading speed and volume. This pathology of risk management failure—the trio of time-consuming risk assessment, preemptive competition, and boom markets—has distinctive regulatory implications.Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Date: 2020
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