Financial Engineering

Posted on August 25, 2007  Comments (1)

In addition to this blog I also run the Curious Cat Investing and Economics blog. Still I don’t really understand what financial engineering is. Here is an article from the author of an excellent economics blog – Reverse engineering financial engineering:

Call it the downside of complex financial engineering. That engineering took some risks off the banks balance sheet (literally in some cases), but it also means that no one quite knows where the subprime losses are. And there is a suspicion that some of those losses are hiding in funds that haven’t offered adequate compensation for the risk.

A few months ago a lot of subprime debt could be packaged into a security that was worth more than the sum of its parts (with a bit of help from the credit rating agencies. And this process was widely lauded. The IMF argued that the United States unique skill at creating innovative fixed income “product” was pulling in the capital needed to finance the US current account deficit. The Fed argued that financial innovation allowed the banks to sell risks that they previously might have held on their balance sheet — though it is also worth noting that the banks themselves were big buyers of MBS as well. Risks were divided and then sold to those best able to manage them.

I understand there has been a large move toward using highly complex math for financial strategies. I understand many derivatives and other investment vehicles have been created. I just don’t really get what makes some of it engineering. Creating new financial instruments, I can come close to understand the argument for calling that engineering but still… And I don’t understand why complex accounting often seems to be called engineering instead of accounting. And the portion that is mainly about changing legal classification then isn’t it more legal than engineering (it seems much financial engineering are gimmicks or tricks or… to gain favorable legal classification for tax… purposes).

Related: Curious Cat economics search engineWhat is Engineering?From rocket scientists to financial engineersMisuse of Statistics: Mania in Financial Markets

One Response to “Financial Engineering”

  1. George Nicolas
    June 14th, 2014 @ 1:41 pm

    I agree with you. Thank you very much for the information you provide also. For those of us proud of such shares.

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