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IF YOU had your coffee before starting this column, you may have noticed the change in name. “Random Walk,” the previous moniker, suggested a belief in the Efficient Market Hypothesis, which has by now been convincingly proved to be complete nonsense. Eventually, people who actually think that risks and returns fall neatly along a bell curve will be reduced to a few totally isolated eccentrics, reminiscent of those Japanese Imperial Army holdouts who periodically emerged from Pacific-island caves in the Fifties and Sixties.

For now, when derivatives traders at banks or money-management firms wheedle capital out of top management, they still use risk-measurement models that incorporate the EMH, models such as the Black-Scholes option-pricing equation. These simplistic, cookbook measurements of risk will lead to disasters such as “portfolio insurance” produced during the 1987 crash, or the spiraling declines aggravated by hedging programs during the Mexico meltdown earlier this year. Just a couple of weeks ago, there was a sudden shudder in the semiconductor stocks caused by a dealer who had to “delta-hedge” a big short position in the SOX index. He was following the Black—Scholes model out of the EMH textbook.

JD

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John Dizard

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IF YOU had your coffee before starting this column, you may have noticed the change in name. “Random Walk,” the previous moniker, suggested a belief in the Efficient Market Hypothesis, which has by now been convincingly proved to be complete nonsense. Eventually, people who actually think that risks and returns fall neatly along a bell curve will be reduced to a few totally isolated eccentrics, reminiscent of those Japanese Imperial Army holdouts who periodically emerged from Pacific-island caves in the Fifties and Sixties.

For now, when derivatives traders at banks or money-management firms wheedle capital out of top management, they still use risk-measurement models that incorporate the EMH, models such as the Black-Scholes option-pricing equation. These simplistic, cookbook measurements of risk will lead to disasters such as “portfolio insurance” produced during the 1987 crash, or the spiraling declines aggravated by hedging programs during the Mexico meltdown earlier this year. Just a couple of weeks ago, there was a sudden shudder in the semiconductor stocks caused by a dealer who had to “delta-hedge” a big short position in the SOX index. He was following the Black—Scholes model out of the EMH textbook.