On air crashes and financial failures

I happened to be reading Malcom Gladwell’s excellent book, Outliers, just as MF Global was collapsing, and I came across Gladwell’s discussion about another kind of crash – those involving airplanes.

Gladwell offers an interesting observation about the causes of air disasters that could apply to the failures at financial firms, like MF Global, or the whopping trading losses reported two months ago at UBS.

Gladwell shows that air disasters aren’t caused by a sudden, dramatic mishap but an accumulation of small errors rooted in poor communication:

“The typical accident involves seven consecutive human errors.  One of the pilots does something wrong that by itself is not a problem.  Then one of them makes another error on top of that, which combined with the first error still does not amount to catastrophe.  But then they make a third error on top of that, and then another and another and another and another, and it is the combination of all those errors that leads to disaster.

“These seven errors, furthermore, are rarely problems of knowledge or flying skill.  It’s not that the pilot has to negotiate some critical technical maneuver and fails.  The kinds of errors that cause plane crashes are invariably errors of teamwork and communication.  One pilot knows something important and somehow doesn’t tell the other pilot.  One pilot does something wrong, and the other pilot doesn’t catch the error.  A tricky situation needs to be resolved through a complex series of steps – and somehow the pilots fail to coordinate and miss one of them.”

It’s easy to see how this scenario could play out at a modern financial firm in a similar way.  Markets are volatile, people are under stress and money, careers and reputations are at stake – conditions that make communication and teamwork even more important.  But instead, people don’t speak up, ask questions, or raise objections when they suspect something is wrong.

While we don’t yet know all the facts surrounding MF Global’s collapse or the trading losses at UBS, there is evidence that warning signs were missed or ignored at both firms.

Perhaps Gladwell’s book should be required reading for senior finance executives.







Credit Suisse campaign gets it right

In a vast sea of sameness, Credit Suisse unveiled a distinctive global advertising campaign last month.   It’s a good campaign and a good message.

The financial crisis and the vilification of banks have made big-splash branding campaigns a rarity among financial firms.  Most have scuttled advertising entirely or narrowed it to focus mainly on products.  Others, notably Goldman Sachs, have used advertising as part of program to address public issues. (Like: “Why do we need high priced bankers, exactly?”)

The Credit Suisse campaign is smart, thoughtful and well executed.  And it emphasizes the client rather than the firm, avoiding the all-too-common tendency for investment banks to tout their own greatness.

The ads also exude a confidence and optimism that have been lacking in finance and business generally.  They’re also a sharp poke in the eye of their cross-town Zurich rival, UBS, which has stumbled badly.  Always good to see banking is still a contact sport.

Credit Suisse hasn’t been immune from the market’s turmoil or the usual ups and downs of global banking, but it deserves praise for stepping out from their shadow.  Bravo.

Friday Risk Reading: Fostering a healthy risk culture

Lately I’ve been thinking a lot about risk and corporate cultures.  Some cultures produce disasters, like the massive, concealed trading loss at UBS – the most recent in a long streak of debacles for the bank.  Other environments, however, seem consistently to produce good things – valued products and great experiences.  Apple of course comes to mind in this category; Starbucks, too.   Both have cultures that nurture and sustain healthy risk-taking, and I am offering two quick items about them for this week’s Risk Reading.

I’ve written before about Steve Jobs and his attitude toward risk.  Fortunately for us, Jobs was at work on a biography before his death, bringing in Walter Isaacson, a former Time and CNN executive to write it.  Isaacson wrote well regarded biographies of Henry Kissinger, Benjamin Franklin and Albert Einstein, and his biography of Jobs promises to shed new light on an intensely private man who, despite his acclaim, was a mystery.

In an essay this week by Isaacson, he hints at what he learned:

But I later realized that he had called me just before he was going to be operated on for cancer for the first time. As I watched him battle that disease, with an awesome intensity combined with an astonishing emotional romanticism, I came to find him deeply compelling, and I realized how much his personality was ingrained in the products he created. His passions, demons, desires, artistry, devilry and obsession for control were integrally connected to his approach to business, so I decided to try to write his tale as a case study in creativity.

It sounds like it will be a terrific book.

Apple and Starbucks share several traits.  They were founded by people with a passionate desire to find new ways of doing things (having coffee and using a computer).  Both founders left and later returned to revive their companies after they’d slipped into crisis.  And both Apple and Starbucks have cultures that encourage creative, constructive risk-taking that energizes their people and produces great results for customers and shareholders.

Starbucks CEO Howard Schultz reflected on the company’s culture in an interview with the Harvard Business School last summer.  He spoke candidly about facing the company’s problems head-on:

The past two years have been transformational for the company and, candidly, for me personally. When I returned, in January 2008, things were actually worse than I’d thought. The decisions we had to make were very difficult, but first there had to be a time when we stood up in front of the entire company as leaders and made almost a confession—that the leadership had failed the 180,000 Starbucks people and their families. And even though I wasn’t the CEO, I had been around as chairman; I should have known more. I am responsible. We had to admit to ourselves and to the people of this company that we owned the mistakes that were made. Once we did, it was a powerful turning point. It’s like when you have a secret and get it out: The burden is off your shoulders.

It seems the UBS board and its executives could learn a thing or two from Schultz.


Firing the CEO, Part 4: Parsing the UBS statement

Swiss banking giant UBS today announced the resignation of CEO Oswald Grubel after a marathon meeting of its board in Singapore.  There was speculation all week that the scandal could ultimately cost Gruebel his job but the suddenness of his departure is a bit of a surprise.  His exit marks the fourth CEO firing in the past two weeks, and the second in the banking industry.

The statement by UBS, while more detailed than earlier commentaries, nonetheless leaves several questions unanswered.  There is no complete explanation of how the trading losses occurred and who besides the jailed trader was to blame.

It also appears that the board wanted Gruebel gone but only after a transition, which he declined to do, suggesting there was some disagreement.  Gruebel will not receive severance, according to media reports, but will continue to receive his base salary for six months – in sharp contrast to other bank CEOs who presided over major trading losses at their firms.

It’s hard to see how Sergio Ermotti, as interim CEO, will be able to accelerate the bank’s restructuring, as the board apparently wants.  Until a permanent chief executive is found, UBS can expect continued uncertainty, client and staff defections and a sideways stock price.


UBS: Pressure mounts after trading loss

Today’s press coverage of the continuing drama at UBS suggests the saga is playing out in predictable fashion, as rivals seek to poach UBS deal-makers, whose bonuses are likely to shrivel following the bank’s losses.   And speculation is mounting that CEO Oswald Gruebel will have to step aside.  The situation has been made worse by UBS’s reluctance to move aggressively, along the lines I recommended in a post last week.

The bank can still rebound from the crisis, but time is running short as others continue to shape the narrative.

Friday Risk Reading: Advice on financial risk management from 15 years ago

In light of the startling $2 billion trading loss that UBS reported this week, my Friday Risk Reading selection is a speech from 1996 by New York Fed President William J. McDonough.

As president of the New York Fed from 1993 to 2003, when he was succeeded by Tim Geithner, McDononugh spoke often about bank safety, financial innovation and the impact of technology on banking.  In 1996, he addressed a conference on Latin American banking in Buenos Aires and outlined the basic elements of sound risk management for banks.  I’ve highlighted portions that are of particular interest for UBS.

At the New York Fed, we have long encouraged financial innovation. Innovation improves market efficiency by expanding the menu of products that serve the needs of market participants, both in financial and non-financial sectors, dealers and end-users. But with innovation comes the responsibility for each institution to engage in prudent risk management practices. Each institution’s evolving risk profile must remain consistent with the goals set by its management and directors.

I would like to share with you four basic principles that our experiences shows should be part of a successful risk management system.

  • First, the risk management system should be subject to active oversight by the board of directors and senior management of the financial institution. Risk management is not a purely technical enterprise, but, rather, a practice undertaken to attain the strategic goals of the institution.
  • Second, the system should incorporate state-of-the-art risk measurement and reporting systems. The information produced by these systems should be of high quality and the reports should be transparent to key individuals and groups responsible for the overall well-being of the organization.
  • Third, the system should include comprehensive internal controls that emphasize the clear separation of trading and back-office operations such as recording, clearance and settlement.
  • Fourth, the system should incorporate well-defined limits on risk-taking by individuals and corporate units at different levels, as well as oversight of those limits.

If we go back and examine some recent, well-publicized problem cases, we see clearly that in each case there was a significant failure to incorporate one or more of these principles in the design or implementation of the firm’s risk management system.

The principles of effective risk management have been around for years.  At UBS, it seems they were either ignored, subverted or forgotten.

Silence reigns at UBS after trading debacle

UBS has remained oddly silent since its brief press release announcing a $2 billion loss from unauthorized trades in London. The announcement chopped some $5 billion from the bank’s market cap, and neither CEO Oswald Grübel nor any other senior executive has addressed the matter.

It’s instructive to compare UBS’s public response to that of other banks involved in similar situations.

When Jérôme Kerviel’s trades racked up losses of $7.2 billion for Société Générale, its CEO, Daniel Bouton, faced the cameras and the critics head-on.   He appeared at a press conference to announce the loss, and issued a detailed letter explaining the trades and how they ultimately were discovered.  Bouton, whose offer to resign was rejected by the board, voluntarily suspended his salary for six months.

Similarly, after Allied Irish Bank found itself relieved of $750 million as a result of John Rusnak’s currency trades, it’s CEO, Michael Buckley, issued a statement and held a conference call for investors and media.

The silence from UBS could mean that the bank doesn’t yet know how the losses occurred and how they were concealed for so long.  If true, it spells trouble for the bank’s executives and means the crisis is far from over.