Ive spoken to so many people here in Switzerland, either in Family Offices or Private Banks, about fat tail risk and no one seems to worry about it. No one owns any kind of protection, save for one very large family office who has 5% of their portfolio in two funds.

Why don't family office guys or Swiss banks seek this kind of protection? This doesn't make sense to me as these are the ones who are trying to preserve their wealth.

Am I missing something here?

Observations that fall outside the normal distribution curve so, for example, causing risks to be underestimated.

Not sure how you can protect yourself against such risks?

Its easy.... There are products to protect your self. i.e. One fund was up 600% in 2008 on subprime and 120% last year on European default worries (currently betting on a blow up in Oz and China. And positioned for a Greek default etc...). But all of his investors are American and English. Thats what I dont get. Why dont Swiss based firms ever want to prepare themselves for these kind of events? They are the most conservative but the least protected? 99% dont even use CDS's.

There are lots of products yet almost no one in Switzerland has any exposure to them. I cant figure out why this is? And this is why I ask.

They just believe that the world is a perfect place?

This quote exemplifies the problem of lack of awareness. There are huge opportunities to earn on such events, but they are beyond reach of a typical person. That's why we need such products, and there aren't that many.

This is almost a philosophical question.

Without risk there is no possibility of reward or loss.

Investors derive part of their return from being paid to bear the possibility of fat tail risk.

It is impossible to 'insure away' risk in a 'riskless' way, because counter parties with whom the insurance resides have their own risk, for example an insurer could go bust, or a derivative provider (usually a bank) could fail.

There is an unbreakable and rational relationshp between risk and reward, and even the brightest of fund manglers and family office personnel are unable to insure it away without simlutaneously imparing reward outcome.

http://fabooks.wordpress.com/2010/02...-in-300-words/

the finance industry here isn't that sophisticated, if you haven't noticed yet. but it looks like you have. it's conservative and slow to adapt, which has been helpful perhaps in the past.. but now you see that switzerland's global share of the market for financial services is falling and more of it is going to ny/london/singapore/hk and will continue to do so.

Thank you professor, but THATS THE FUKKEEN POINT! Its costs nothing to protect yourself. i.e. You are being huge rewards for risking little capital. Yet no one wants to do it here. They want to get uber long PE and short vol vehicles.

There is twice as much risk today with half the rewards. You dont get huge rewards for taking risk.

The point is you want to get long when risk is being "overpriced in" and you want to get short when risk is "underpriced into the market".... Thats how you make money. If HUGE RISKS= HUGE REWARDS, we would all be having sex with people who have HIV, in the hopes of super-charged rewards. But in reality its not like that.

I agree, but I was of the understanding that 'conservative' meant you understood the risks, and the pricing of these risks, in the market. When Baa spreads are close to zero there is no risk being priced into the market.

They are conservative yet myopic.... And these are typically the smarter people in CH. Thats why its so shocking.

Go on then, I will bite. Tell me how you can insure against tail risk without it costing anything.

Japan 5yr CDS at 70bps...... Its not rocket science. Theres tons of stuff like this. Aussie RMBS CDS at 80bps is dirt cheap. On 30mn notional it costs me only 240,000 up front. But there is tons of stuff like this with no risk being priced in, even though there are risks.

Right. So not free then. Cheap I grant you...

The problem we have found is that either we would have to invest a fairly significant percentage of our assets into something like CDS in order to give a decent amount of protection to our portfolios, or the products are simply not able to perform strongly enough during a tail risk event to justify the investment.

Nothing is free, but Im familiar with what most of the family offices here in Zurich own. You could simply buy synthetic credit spreads. There are indexs. But the easiest thing to do is outsource it. There are several "blow-up funds" out there and they are structured to make 300% to 1000% during a risk event. There are three in Texas, one in the UK (who I dont think is very good) and two in CH (and they have NO Swiss clients).

But if you treat it as a synthetic put and amortize it at 20% per year, then 5% of NAV wont kill you. I dont know too many Family Offices who arent sitting on "too much" cash currently. 5% of NAV isnt going to hurt these guys. There are plenty of options for larger investors. They just have to want to cover their asses.

We aren't a family office. And we have seen a number of tail risk funds and so far haven't not been convinced that they will do what they are supposed to do. Are you selling one of the CH-based ones by any chance? In any case, if you want to PM me I would be interested to hear some more details.

Im not selling one, but Im familiar with everyone who is.... I can ask these guys in CH for a rap-sheet and send it on. But I agree, most of these guys probably wont deliver "Subprime" numbers. But I think there are a couple who can easily deliver 500% to 1000% over 5 years, because they understand the trades and the timing of the trades. Your basically paying some one to understand the timing.

So...

What are you selling?

I didn't say it in a bad way, I would be willing to take a serious look at the products. I am also curious about the technical side, what do they offer that you can't create manually?

You can buy insurance on anything you want right? The thing is, it usually ends up being so expensive there is no point to it. Of course, if you are good enough to recognize 'underpriced' assets then you go for it.

'Buy low sell high' ... easier said than done.

Who?Me? Im not selling anything. We own a couple of these funds, and we own CDS's. But after speaking to these managers Ive realized that basically no one owns these kind of investments in CH. And I simply dont know why? Which is why I asked "do they have protection?" Perhaps I know all the wrong people, and infact Switzerland is uber protected??????

Thanks for the clarification. I think on the technical side they offer pretty bread and butter stuff. But you have to find some one who you think understands the timing issues and how to play each event (i.e. if Spain goes bankrupt and CDS's are made illegal, how do you rotate your position?). There are a fund in the UK (originally from NZ) who we looked at and they didnt understand any of this.... Like NOTHING about it. They just bought gold and vix and thats it.

From the better people we have talked with the "underpriced" assets depend on where you are in an events cycle. For example Chinese bank CDS are 90bps! Even though they typically have 40 to 60% NPLs every 10 years. Thats cheap because of where we are in the cycle. Greece 2 yr CDS are at 2200bps because of where we are in the EU cycle. Thats expensive.

Im can PM you some stuff when I find it.

To those who are wondering what treasures CDSs hold, there is a video from 2008 - economicpopulist.org, which has a succinct explanation.

That was a very political way of looking at it. But 99% of the market isnt about over-insuring things that are going to go bust. When a bank or insurance companies fixed income department wants to juice up its yields they sell these derivatives and earn a fixed income on these CDS's for the life of the contract. In other words, all of these Italian banks who have been selling Greek CDS's are earning 20% per year, out of thin air!

Oh, and the other thing. When an AIG has problems with collateral the insured client doesnt demand more of it. He simply goes to JP Morgan and buys CDS's on AIG! He insures against his insurer.

But when these guys do have to raise more collateral guess what they do? THEY SELL EVEN MORE CDS'S..... That earns them enough money to cover their shortfall. Money out of thin air.

Its a $50Trillion market. So if banks and insurance companies earn an average 200bps per year on issuances that means CDS's make up $1Tr worth of bank revenues yearly.

In other words, banks are addicted to them. If you make them illegal credit spreads for crappy stuff like private equity will double, and banks will lose $1tr annually of revenues.

Its an addiction that will eventually destroy itself.