The Quants

I am currently reading The Quants by Scott Patterson, a fascinating read about the rocket scientists that took over the financial world.

Reading financial trading books is not something I do often, although I did read a lot on finance during the beginning of my academic career.

There are as many dissimilarities between financial and sports markets as there are similarities so one should never get caught up in trying to model a sports market exactly as you would a financial market.

Still, there is plenty in The Quants to make you think about your work. The first thing to note is that these rocket scientists are from all walks of academia.

In one example, we can read about cryptanalysts and speech recognition experts being drafted into the financial arena. If it works then trade with it, that should be your only consideration. Forget tradition and what the herd is doing. Find your own niche, protect it, profit from it and ditch it the moment it turns against you.

When to ditch a model is an important lesson to learn whilst reading The Quants. Some of the greatest minds can believe in a model so much that they can't see its flaws. That was true of the Nobel prize winners, Scholes and Merton, whose LTCM fund collapsed because their model couldn't cope with a new reality.

The book centres around the banking collapse of 2008. Many hedge funds suffered from gamblers fallacy and were essentially gambling more than they should have. Use of derivatives had leveraged cheap loans with which to gamble. If a gamble went against the fund then more cheap money was borrowed to "double down" in true Martingale fashion.

One person not to suffer in 2008 was Ed Thorp who continues to this day, using Kelly Criterion and no leveraging, to maximise growth of the fund he manages whilst minimising risk.

A good read that I thoroughly recommend.