Second-order derivative

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In which the JC has made up some swap talk, inexpertly cribbing from actual terms used in actual calculus, about which the JC knows 0.

In risk management, the first-order derivative of an event “ƒ” is the effect that event would have, were it to actually happen in the practical world.

So, for example, the counterparty has failed to make a payment.

The second-order derivative, of function ƒ is a derivative of the first-order derivative of that function. So, for example, the warning light on a control panel, the RAG status indicator on a management PowerPoint, or the numerical quantity of an item (completed ISDA negotiations); reviewed legal netting opinions) whose quality one doesn’t have the subject matter expertise to assess.

Operations people deal with actual risks; legal eagles and fellow controller subject matter experts deal with first-order derivatives of those actual risks — what the consequences are if the risk comes about — and middle management and internal audit deal with second-order derivatives, being derivatives of those first-order derivatives of the underlying risk: what the RAG status on the opco dashboard should look like if a NAV trigger is hit; whether the template confidentiality agreement as been reviewed within the six-month time limit arbitrarily prescribed by some policy for the review of standard form legal agreements — that kind of thing.