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Some losses can’t be estimated in advance

Some losses can’t be estimated in advance
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First Published: Mon, Aug 25 2008. 11 29 PM IST

Updated: Mon, Aug 25 2008. 11 29 PM IST
The Sloan School of Management at the Massachusetts Institute of Technology, or MIT, will be the first top-notch US business school to offer a master’s in finance, a degree aimed at the brainiac “quants” found inside investment banks and hedge funds. Others are thinking of following. It looks like a bubble.
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The school announced on 30 June that it will offer a master’s degree in finance. The 12-month programme will begin in the 2009 academic year.
The degree is well established in Europe. It has been offered by the elite École des Hautes Études Commerciales de Paris, or HEC Paris, since 1986, providing a ticket to success at the French banks which have done so well in derivatives and related types of financial engineering. Schooling helps for quantitative finance and all sorts of financial engineering. These are hard skills to pick up on the job.
But it takes a while for degree programmes to get off the ground. So the new crop of master’s in finance is hitting the education market just as the finance world is hitting hard times. That would be a shame. Sophisticated finance still has a lot to offer.
But there’s one big problem with the way finance is typically taught. The content is perilously close to being irrelevant in today’s shaky environment. Without reform, the typical financial curriculum could only perpetuate notions which have made the current malaise worse.
Indeed, the reputation of theoretical and quantitative methods in finance has been a big casualty of the year-old credit nightmare. The complex mathematical models used to value and rate complex credit derivatives structures proved spectacularly lacking. Estimates of so-called “value at risk” were flooded by losses that were many times larger than thought possible.
Reality shows the invalidity of many central tenets of modern financial economics—markets behave normally, liquidity is not an issue, standard deviation is a reliable measure of risk. The banks and quant funds that relied on these assumptions have suffered huge setbacks.
But as yet, the new finance programmes seem wedded to the dodgy theory and techniques. While MIT’s exact curriculum is still unknown, a school with its technical background isn’t likely to break the mould. The world would be safer if these programmes taught students to understand that some losses cannot be estimated in advance.
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First Published: Mon, Aug 25 2008. 11 29 PM IST