Paul Wilmott, one of the world’s leading financial mathematicians, looks like a 30-something, although he is 49. Mathematics keeps him in shape, he says, relaxing in his jeans and trainers in his west London apartment.
Wilmott has made his name and fortune by applying mathematics to finance and now claims to run the biggest “quantitative analysis” Web site in the world. So-called “quants” combine maths and finance to produce many of the models that underlie the complex derivatives blamed for causing the credit crunch.
Wilmott had been warning for years that the models used by banks to value their assets were wrong.
“Reality has vindicated meA,” he says. “I stood up in front of paying audiences and told them that they trusted the formulas too much and that they were also paid too much.”
A few people stormed out of his conferences, slamming the door, he adds.
The banking system crash has seen US$1 trillion wiped off banks’ assets worldwide after the complex formulas were proved wrong: the assets had been overpriced and the relationships between them were different from that which was initially thought. If a sub-prime mortgage collapsed, millions of others followed suit.
“Following the formulas was like relying on your seatbelt to drive crazily: it’s not going to save your life. People in risk management don’t know a fraction of what they should; they’re not skeptical, they haven’t tested the data or used their imagination to find solutions,” he says.
Wilmott is also critical of the British government’s approach to the crisis. He claims its plan to insure more than £500 billion (US$745 billion) of banks’ toxic assets is based on a model and won’t work as it only involves two banks (the HBOS bank and the Royal Bank of Scotland) leaving others outside the program. Involving only a few banks won’t kick-start the circular nature of inter-bank lending as all banks need to be involved.
“Governments know nothing of this subject, they spent two minutes thinking about it, without considering the consequences or getting [advice from] consultants,” Wilmott says. “They’re like rabbits caught in headlights. They are only talking to the bankers who got us into this mess, or lords or ladies who know nothing. They should be getting advice from people like me, who saw this coming.”
According to Wilmott, the UK Financial Services Authority isn’t much better.
“They can’t afford to pay the best people; we should send regulators to derivatives courses so they could ask questions to the banks,” he says.
Wilmott is angry about the amount of “idiots” who got the world into the present financial crisis. He was one of the thousands of protesters against the recent G20 summit.
“Why weren’t there more people there?” he wondered.
Wilmott is an evangelist for math and its application to everyday life. His book on quantitative finance is used around the world by hordes of bankers who run the world’s top trading desks.
Wilmott goes one step further than most of his peers, as he also tries to integrate into his analysis the financial world’s biggest challenge to rationality: human behavior.
“You can model electromagnetic waves: a mathematical model that shows molecules of air moving around a plane, making it fly,” he says.
“But in a financial model, you need more than numbers. The models in finance are not very good. In this field, it matters if you’re not psychologically synchronized; people don’t behave rationally. You can’t rely on people following equations. It’s half maths and half human,” he says.
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