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- Most economic capital models systematically underestimate risk because they do not adequately incorporate the contribution to risk from the rare "black swan" events – evidenced by the fact that the "one in a hundred year" events occur every 10-15 years.
- Most risk models rely exclusively on historical data. As a result, they do not accurately reflect the firm's risk profile when the risk profile changes.
- These models cannot be used to update the risk profile with "soft data" and/or "expert opinion" in an objective, transparent and theoretically valid manner.
- Biased models create "risk-reward arbitrage" opportunities, allowing unethical managers to deliberately engage in high-risk activities while appearing to operate within stakeholder risk tolerances (principal-agent risk).
- Because performance is generally benchmarked against peers, irresponsible behavior at one organization can lead to a "follow the herd mentality" and cause an industry trend (i.e., systemic risk).
- The language of risk management has become too complex for most senior executives to validate the business assumptions underlying their company's risk models.
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