Financial Econometrics and Empirical Market Microstructure

AQAL Risk Management

We’ll apply Integral Theory philosopher Ken Wilber’s All Quadrant All Levels (AQAL) Framework to put the major components of Adaptive Stress Testing in a larger context (Wilber 2001). Integral refers to “balanced, comprehensive, interconnected, and whole” (Wilber 2006).

Wilber proposes consider at least four interdependent perspectives for an integral understanding of reality. These perspectives consist of two pairs of polarities:

1. Objective Exterior vs. Subjective Interior

2. Individual vs. Collective

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» Culture

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- collective vision & values

This results in four interdependent perspectives shown in Fig. 24. The quadrants can be summarized as “I” (Interior Individual), “We” (Interior Collective), “It” (Exterior Individual) and “Its” (Exterior Collective).

Starting in the upper right, metrics are important (It), but we also need to take the systems perspective (Its) and ensure sound processes and governance. This is the science half of risk management. Without it, we’re flying blind. The left quadrants are subjective, and are the art of risk management. In the upper left (I), we need individuals with integrity, expertise, and the ability to question and be contrarian. But even the best risk managers can’t help unless there is a risk culture (We). Culture is defined by a group’s collective vision and values. It is the primary evolutionary driver of organizations. As people and systems come and go, culture determines the evolution and persistence of organizational learning. It’s an organization’s evolving DNA.

Each of these interdependent quadrants plays an important role for Adaptive Risk Management. It starts with the Innovators who are free from groupthink (I).[26] In our Adaptive Stress Library we aggregate credible scenarios by Innovators (We), and then look for metrics that indicate early adoption of a theme (It), and put systems and governance structures in place to act on such intelligence (Its).

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