Star-Struck Quants Flock To French Riviera
The 54th Cannes Film Festival may have been happening down the road, but as far as some derivatives professionals were concerned the real stars were quants and academics gathering for last week's ICBI-sponsored Global Derivatives & Risk Management 2001 conference in Juan Les Pins, France. "I am here because of the number of celebrities," gushed Frank Weider, director of risk control at Dresdner Kleinwort Wasserstein in London. Among the industry luminaries gracing the conference were John Hull, professor of finance at the University of Toronto, and Emmanuel Derman, managing director, firm-wide risk at Goldman Sachs in New York.
After enjoying a touch of glamour not usually associated with quantitative analysis, the 350 delegates got down to the serious business of discussing whether stochastic volatility models used to price exotic options should include jump assumptions and how to enhance the Black Scholes paradigm.
Alex Lipton, U.S. head of foreign exchange product development at Deutsche Bank in New York, said bankers are tending towards the assumption in their stochastic vol models that implied volatility and the underlying tend to jump--rather than move smoothly--between values in unstable markets, such as the emerging markets. HSBC Trinkaus & Burkhardt in Düsseldorf, does not currently use jumps in its pricing models but is considering changing its modelling approach as a result of ideas presented at the conference, according to Marcus Holder, quantitative analyst.
The University of Toronto's Hull said bankers are "getting more serious about going beyond Black Scholes." He still classifies many of the models discussed at the conference as research models or double-checking models but estimates in two years many of the theories will be in practical use. One product of the increased emphasis on a model-driven approach is the movement towards enhanced dynamic hedging, which uses both static hedging and dynamic hedging techniques. The Black Scholes model requires the hedge to be continuously traded but in the real world that proves difficult and expensive. As a result bankers have started to put a static hedge in place to hedge part of the risk and then continuously trade out the residual risk. --J.C.