I do not believe that the so called 'quants' had any blame for the credit melt down. I admit I am a quant, but not in the financial derivatives industry. All too often, or really almost all the time, quants are not in a decision making position. The quants did not go off and sell these horrible CDO products to companies and hedge fund managers, sales people(investment bankers) did. Those sales people were led, not by the quants, but by senior management. It is the senior management who did not understand what they were pushing and simply pushed sales with the typical overconfidence and lack of understanding that comes with being senior management. My guess is that a full 80-90% of the true Wall Street quants are now sitting back and saying 'we tried to tell you, but you just wouldn't listen' in regards to the true riskiness of CDO's.
Making better 'quants' is not about them understanding the pitfalls of the models they work with or being ethical, they already have those abilities. Quants need the help in making them better persuaders, better communicators, and better leaders so they can get into decision making positions. In Tom Davenport's book 'Competing on Analytics', all the companies outlined as successfully using analytics (quantitative finance fits into the analytics category) have top management that fully understand analytics and their use. This allows not only for the proper support for analytics in an organization, but also so senior management can make truly informed and well understood decisions using the results of analysis.
Unfortunately, we have come to a cross-road that will require legislation and regulation to force companies and specifically the senior management who run them to abide by rules set forth to govern risk management. Let's hope that the law makers and regulators understand things as well as the quants.
Revenge of the Nerd
Paul Wilmott is out to save Wall Street's soul—one dork at a time.
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Imagine an aeronautics engineer designing a state-of-the-art jumbo jet. In order for it to fly, the engineer has to rely on the same aerodynamics equation devised by physicists 150 years ago, which is based on Newton's second law of motion: force equals mass times acceleration. Problem is, the engineer can't reconcile his elegant design with the equation. The plane has too much mass and not enough force. But rather than tweak the design to fit the equation, imagine if the engineer does the opposite, and tweaks the equation to fit the design. The plane still looks awesome, and on paper, it flies. The engineer gets paid, the plane gets built, and soon thousands just like it are packed full of people and sent out onto runways. They fly for a while, but eventually, because of that fatal tweak, they all end up crashing.
In a way, this is what's happened in quantitative finance. The planes are the complex derivatives—like collateralized debt obligations—that now lie smoldering on the balance sheets of banks. The engineers are the "quants": those math and science Ph.D.s who flocked to Wall Street over the past decade and used mathematical models to build these new investment products. These are the people Warren Buffett was talking about when he said, "Beware of geeks bearing formulas" in his letter to shareholders this year. The quants aren't entirely to blame for the financial meltdown; there's plenty of guilt to be shared by regulators, top executives and the investors who bought the instruments the quants created. Yet while aeronautical engineers who willfully designed a faulty plane might be on trial for criminal negligence, Wall Street's math gurus are, for the most part, still employed. Strangely, the banks need quants more than ever right now. If anyone's going to figure out how to price these toxic assets, it's them. Quantitative finance isn't going away, but it is in desperate need of reform. And one man—a math geek himself—thinks he knows where to start.
Paul Wilmott is a 49-year-old Oxford-trained mathematician and arguably the most influential quant today, the brightest star in their insular, nerdy universe. The Financial Times calls him a "cult derivatives lecturer." Nassim Taleb, the mathematician and author of the bestseller The Black Swan, calls him the smartest quant in the world. "He's the only one who truly understands what's going on ... the only quant who uses his own head and has any sense of ethics," says Taleb. Wilmott stands atop a veritable quant empire. His wonk-made-simple textbooks sell for hundreds of dollars. A subscription to his bimonthly magazine, Wilmott, costs $695 a year. His Web site, Wilmott.com, is the nerve center of the quant community, with 65,000 registered users and a chat forum that buzzes over such topics as geodesic stochastic manifolds and swaption vol arbitrage.
Over the past decade, and increasingly since the crash, Wilmott has cultivated a loyal following of truth-seeking converts from the failed school of thought that the entire world can be turned into Greek symbols, plugged into equations, priced and predicted. He's especially critical of the notion that math can forecast human behavior, essentially the basis of finance. "This," says Wilmott, "is absolute rubbish." To rectify the situation, he's started his own training program, the Certificate in Quantitative Finance, or CQF. It's the gem of his empire, the key, he hopes, to saving the quants from themselves, not to mention all of us from their future destruction. In essence, the course is rehab for quants, a six-month, $18,000 program designed to break them of the abstract, theoretical approach to finance they learned in their Ph.D. or financial-engineering programs, and replace it with a more practical set of skills that are actually used on Wall Street. "What banks really need are quants who can translate theoretical math and tell them how it applies," says Wilmott. "Because what good is being fluent in geek if you can't apply it? You might as well stay in university."
Ever since Ed Thorp, the first true quant, left his job teaching math at UC Irvine to start a hedge fund in the 1970s, math and science types have been setting out from academia to try their hand at finance. The watershed came in the mid-1970s when MIT-trained economist Robert Merton along with Myron Scholes, a University of Chicago economist, and Fischer Black of Harvard developed the Black-Scholes equation for pricing options, which eventually garnered a Nobel Prize. Over the past 20 years, quantitative methods gradually spread into commercial and investment banks, fueling a huge demand for math savants. Since the mid-1990s, dozens of master's-degree programs in financial engineering have sprouted up at top universities. (The highest-rated ones are at Carnegie Mellon, Columbia, Stanford and Princeton.) Along with physics Ph.D. programs, these are the primary breeding grounds for the many thousands of quants who have found their way to Wall Street. It's these programs that Wilmott has taken direct aim at with his CQF. "I'm building a new army of quants," he says. His ranks currently stand at 1,273: the number of CQF alumni who have graduated since the program was founded in 2003. Wilmott realizes he's vastly outnumbered, but he's undaunted. "Ever see the movie Zulu?" he asks, referring to the 1964 Michael Caine film about a battalion of 140 British soldiers besieged by 4,000 African warriors in 1879. The Brits won, mostly because they were better-trained and -equipped, just as Wilmott wants his graduates to be.
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