Last week, I stumbled across a good documentary by VPRO on quantitative analysts. It features a couple of famous "quants", Paul Wilmott and Emanuel Derman, as well as Michael Osinki who wrote the software used by many banks to securitize mortgages.
The documentary discusses the challenges associated with financial modeling. For example,
- Many models were based on limited historical data that was insufficient to represent macro-economic swings.
- Many executives did not understand the technical aspects of financial modeling and were therefore unable to recognize the associated risks that led to the subprime crisis.
I strongly agree with Paul Wilmott on the following (paraphrased) point,
People that take risk should be compensated. But they should not be compensated for taking risk with other people's money.
Here here. Wilmott is extremely impressive. When the subprime crisis hit, I was surprised to find out that he had been warning against model related risks. Given his high regard in quant circles, I'm surprised his warnings were not better heeded.
