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What Happened to the Quants in August 2007

In June of 2007, the assets of two funds managed by Bear Stearns were seized and sold by a number of lenders to the funds, including Merrill Lynch. These assets of the BS funds were collateralized debt obligations, or CDOs, Many of the CDOs the Bear Stearns funds had were backed by mortgage securities.

The Bear Stearns events of the summer of 2007 still looked to the global markets as if the were US specific at that time, it was not until the BNP Paribas issues that the problem looked to be global. In August 2007 at the time of the BNP Paribas probems, arguments were made in the media to the effect that panic occurred because inexperienced assistants were at the helm of the trading desks whilst the experienced managers were at the helms of their yachts! Hedge Funds in Australia and the UK were impacted by the Paribas and Bear fallout and the small German bank IKB was supported by its local state. It still remained possible to believe in the early summer of 2007 that the issue was sub-prime in the US, an idea (a semantic confusion) which the mass media became fixated upon for the remaining period of the crisis.

A recently published paper "what happened to the quants in August 2007" looks at this period, the trigger process of the credit crisis and on the basis of a quantitative analysis of trading strategies and the market numbers draws a number of interesting conclusions.

"Hedge Funds are becoming more like banks. The fact that the banking industry is so highly regulated is due to the enormous social externalities banks generate when they succeed, and when they fail. But unlike banks, hedge funds can decide to withdraw liquidity at a moment's notice, and while this may be benign if it occurs rarely and randomly,
a coordinated withdrawal of liquidity among an entire sector of hedge funds could have disastrous consequences for the viability of the financial system if it occurs at the wrong time and in the wrong sector.

One cannot manage that which one cannot measure!"

What Happened To The Quants In August 2007?
Amir E. Khandaniy and Andrew W. Loz, Latest Revision: November 4, 2007

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Tags: Asymptotix


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