My Life as a Quant: Reflections on Physics and Finance

Overview

My Life as a Quant is Derman's account of his search for answers as he undergoes his transformation from ambitious young scientist to managing director. His book is simultaneously wide-ranging and personal. He tells the story of his passage between two worlds; he recounts his adventures with physicists, quants, options traders, and other highfliers on Wall Street; he analyzes the incompatible personas of traders and quants; and he meditates on the dissimilar natures of knowledge in physics and finance. Throughout...
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Overview

My Life as a Quant is Derman's account of his search for answers as he undergoes his transformation from ambitious young scientist to managing director. His book is simultaneously wide-ranging and personal. He tells the story of his passage between two worlds; he recounts his adventures with physicists, quants, options traders, and other highfliers on Wall Street; he analyzes the incompatible personas of traders and quants; and he meditates on the dissimilar natures of knowledge in physics and finance. Throughout his tale, he reflects on the appropriate way to apply the refined methods of physics to the hurly-burly world of markets.
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Editorial Reviews

From the Publisher
“engaging” (CFO Europe, October 2005)

"...tells wonderful stories of trying to bring highermathematics to the Goldman Sachs equity-derivatives trading desk."(Grant's Interest Rate Observer, Dec. 17, 2004)

Not many Wall Street veterans could write: "Visiting clients inMadrid, I dropped into the Thyssen museum, where I stumbled acrossseveral [Arthur] Dove paintings . . . in The Hague, too, after aEuronext options conference, I saw early Mondrian paintings oflilies that were influenced by [Rudolf] Steiner".
There are few "gentlemen bankers" left these days. Nor is theremuch room in the great financial houses for anything that smacks ofthe amateur spirit. That is why Emanuel Derman's memoirs are socompelling. As a physicist with a PhD from Columbia University, NewYork, he was not exactly a natural born trader when he joinedGoldman Sachs in 1985. He had spent most of the preceding 20 yearsin education and research.
But Derman got in at the ground floor of financial engineering, orquantitative finance, and spent two decades exploring the almostinfinite potential (and complexity) of derivative products andsophisticated risk management. Now back in academia, Derman hasreflected on his experiences of the past 40 years.
He begins his story in 1966, when he arrived in New York city fromSouth Africa as a bewildered, rather lonely 20 year old. Derman'sfirst degree in physics was from Cape Town university, but he hadcome to Columbia determined to make his name. "I dreamed of beinganother Einstein," he confesses. "I wanted to spend my lifefocusing on the discovery of truths that would live forever."
It took several years for Derman to accept that this ambition wouldnot be realised. Pure physics had room at the top for only ahandful of people. He struggled for years in a series of insecurepost-doctoral positions. "In much the same way, by a process [that]option theorists call time decay," he writes, "financial stockoptions lose their potential as they approach their ownexpiration."
Derman's wry humour and sense of irony are apparent throughout thebook. "If you didn't mind wasting the best years of your youth," hesays, "graduate student life at Columbia was paradise." Thesequalities, allied to his many and varied literary and culturalreferences, reveal him as a multi-layered personality. In spite ofhis later eminence on The Street in the 1980s and 1990s, this is nocrude Big Swinging Dick.
And he is not lying about wasting his youth. In 1969, when so manyyoung people of his generation were heading off to hang out atWoodstock, Derman admits: "I spent the summer of 1969 at a particlephysics summer school at Brookhaven National Laboratories in Upton,Long Island."
Eventually Derman abandoned pure physics for the - to him - lessnoble pursuit of applied physics, spending five years at AT&T'sBell Laboratories in New Jersey. This chapter, entitled "In thePenal Colony" - a reference to a Kafka short story of the same name- is a tale of corporate woe. The business world, while better paidthan academia, seemed to offer even less satisfaction andexcitement.
Derman says he learnt almost nothing about business or finance atAT&T, but he did learn to program and generally master the newgeneration of computers that were beginning to appear in the early1980s. When the headhunter's call finally took him to GoldmanSachs's financial strategies group in December 1985, it came as animmense relief.
Derman was charged with developing the famous Black-Scholes optionpricing model so it could be applied to bonds, an urgent task inthe more volatile markets of the post oil shock world. FischerBlack, one of the original model's authors, worked at Goldman andbecame a mentor and inspiration to Derman. Black, he writes, "wasgenuinely in love with the idea of equilibrium." Derman waseventually to become co-author of the Black-Derman-Toy model, whichpriced bond options.
In total, Derman spent 16 years at Goldman, with one unhappy yearat Salomon Brothers sandwiched in between. The former academic wasnot immune to the usual Wall Street temptation of leveraging abetter deal at another firm. Nine months after September 11 2001,Derman left Goldman to return to Columbia, where he now leads theprogramme in financial engineering.
Derman was one of the heroes of risk management in the 1990s,constantly pushing at the boundaries of what was possible, comingup with ever more sophisticated and ingenious structures. And yet asober scepticism, learned the hard way all those years ago inuniversity libraries, underpins his world view.
He is sardonic about his work: "The capacity to wreak destructionwith your models provides the ultimate respectability," he says."Many of the Long Term Capital Management protagonists are back inbusiness."
Now teaching again full time, Derman has grown even more sceptical."A decade of speaking with traders and theorists has made me wonderwhat 'correct' means," he writes. "The more I look at the conflictbetween markets and theories, the more that limitations of modelsin the financial and human world become apparent to me."(Financial Times, November 18, 2004)

Indecisive, introspective, awkward, and sometimes morose,memoirist Emanuel Derman comes across like a character in a SaulBellow novel. He wallows in loneliness after leaving his home inSouth Africa to earn a PhD in theoretical physics at ColumbiaUniversity. Later, he obsesses over leaving pure physics to doapplied research at Bell Laboratories. Then he punishes himselfwith guilt when he abandons physics entirely to work on WallStreet. Although he succeeds as a math-savvy "quant" at Goldman,Sachs & Co. (GS), he continues to ponder whether markets canreally be understood. "We are still on a darkling plain," he writestoward the end of his new book. "If you are a theorist you mustnever forget that you are traveling through lawless roads where thelocal inhabitants don't respect your principles."
That sense of being an intruder in outlaw territory lends anintriguing mood to Derman's My Life As a Quant, a literateand entertaining memoir of his two-stage career — in physics andthen financial engineering. Wall Street looks quite different froma nerd's-eye view: "Geeks were fair game," Derman reflects. Once, achief trader who passed between him and a fellow quant "winced,clutched his head with both hands as though in excruciating pain,and exclaimed, 'Aaarrggh-hhh! The force field! It's too intense!Let me out of the way!"'
As one of Wall Street's leading quants, Derman did throw off someintense gamma radiation. He worked at Goldman from 1985 until 2003except for one year at Salomon Brothers. At Goldman, he moved fromfixed income to equity derivatives to risk management, becoming amanaging director in 1997. He co-invented a tool for pricingoptions on Treasury bonds, working with Goldman colleagues Bill Toyand the late Fischer Black, who co-invented the Black-Scholesformula for valuing options on stocks. Derman received theindustry's "Financial Engineer of the Year" award in 2000. Now hedirects the financial-engineering program at ColumbiaUniversity.
Derman failed at what he really wanted, which was to become animportant physicist. He was merely very smart in a field dominatedby geniuses, so he kicked around from one low-paying research jobto another. "At age 16 or 17, I had wanted to be another Einstein,"he writes. "By 1976...I had reached the point where I merely enviedthe postdoc in the office next door because he had been invited togive a seminar in France." His move to Wall Street — anacknowledgment of failure — brought him financial rewards beyondthe dreams of academic physicists and a fair measure ofsatisfaction as well.
In the tradition of the idiosyncratic memoir, My Life As aQuant is a grab bag of the author's interests. It quotesSchopenhauer and Goethe while supplying not one but three diagramsof a muon neutrino colliding with a proton. There is a long sectionon the brilliant and punctilious Fischer Black; a glimpse ofphysicist Richard Feynman; and an embarrassing encounter withfinance giant Robert Merton, who sat next to the author on a longflight (Derman treated him rudely before realizing who hewas).
Derman's mood seems to vary from bemused on good days to sour onbad ones. The chapter on his postdoc travels is titled "A Sort ofLife"; his brief career at Bell Labs, "In the Penal Colony"; histenure at Salomon Brothers, "A Severed Head." Pre-IPO Goldman Sachscomes off as relatively gentle yet stimulating. He writes: "It wasthe only place I never secretly hoped would crash and burn."
At times, his awkwardness is so extreme that it's funny. Here's howhe failed to work up his nerve to ask a Columbia professor to behis adviser: "Every time I saw him I smiled; every time I smiled hebared his lips back at me with greater awkwardness." It got sopainful that he began to flee whenever he saw the profcoming.
The most challenging part of the book — and for techies, probablythe best — is Derman's detailed explanation of trading tools hedeveloped. The Black-Derman-Toy model, from 1986, allowed tradingdesks to come up with prices for Treasury bond options based onmath rather than guesswork. In 1993 he and Goldman colleague IrajKani invented an options-pricing method that improved on an aspectof Black-Scholes — its incorrect assumption that the volatility ofoptions is unvarying. They deduced the "local" volatility of aconventional option at each possible stock price and at each momentup to expiration. That information could then be used to priceexotic options more accurately.
As it turned out, both inventions had limitations in practice, butDerman accepts that. The theoretical purist finds a measure ofcontentment in contributing to the imprecise world of finance —"intuiting, inventing, or concocting approximate laws andpatterns." It ain't E=mc2, but as he recognizes, it maybe the best anyone can hope for. By Peter Coy (BusinessWeek, November 15, 2004)

"Sadly, there's not much to buy in the stock or bond market thisholiday season, but John Wiley & Sons has published the perfectgift. "My Life as a Quant," by Emanuel Derman (292 pages, $29.95)is, indeed, a perfect memoir, as Derman, a South African-bornphysicist turned financial engineer, is a perfectmemoirist."—Grant's Interest Rate Observer

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Product Details

  • ISBN-13: 9780470192733
  • Publisher: Wiley
  • Publication date: 12/21/2007
  • Edition number: 1
  • Pages: 308
  • Sales rank: 811,077
  • Product dimensions: 4.65 (w) x 9.98 (h) x 0.84 (d)

Meet the Author

Emanuel Derman has a PhD in theoretical physics from Columbia University. He is the author of numerous articles in elementary particle physics, computer science, and finance, and a coauthor of the widely used Black-Derman-Toy interest rate model and the Derman-Kani local volatility model. After an initial career in academic life and a stint at AT&T Bell Laboratories, he moved to Goldman, Sachs & Co. in 1985, where he became a managing director in 1997. Among his many awards and honors, he was named the SunGard/IAFE Financial Engineer of the Year in 2000 and was appointed to the Risk Hall of Fame in 2002. He is currently the Director of the Program in Financial Engineering at Columbia University, a columnist for Risk magazine, and a risk advisor to an investment management company. He lives in New York City.

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Table of Contents

Prologue : the two cultures 1
Ch. 1 Elective affinities 17
Ch. 2 Dog years 29
Ch. 3 A sort of life 53
Ch. 4 A sentimental education 65
Ch. 5 The mandarins 77
Ch. 6 Knowledge of the higher worlds 85
Ch. 7 In the penal colony 95
Ch. 8 Stop-time 117
Ch. 9 Transformer 129
Ch. 10 Easy travel to other planets 143
Ch. 11 Force of circumstance 175
Ch. 12 A severed head 191
Ch. 13 Civilization and its discontents 203
Ch. 14 Laughter in the dark 225
Ch. 15 The snows of yesteryear 251
Ch. 16 The great pretender 265
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Sort by: Showing all of 8 Customer Reviews
  • Anonymous

    Posted July 23, 2008

    Brilliant!

    Dr.E.Derman's book offers a rare and useful insight into the relatively complex world of Finance,where information asymmetry can be potentially dangerous. His experiences and encyclopedic knowledge are a godsend and help us understand both the benefits and,more importantly,the pitfalls of financial instruments and financial innovation. Dr.E.Derman is a rare genius,a scientist,a financial engineer,and last but not the least,a good human-being all rolled into one.

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  • Anonymous

    Posted February 23, 2005

    Packed with Knowledge !

    This excellent autobiography covers the emotional life of a thoughtful man. Emanuel Derman examines his conscience dispassionately and honestly, offering a sometimes poignant account of his descent from the world of pure science to the hustle of Wall Street. His memoir flows like a conversation, albeit with many tangents. You¿ll learn more than you want about personnel changes at his former firms, but you¿ll also gain rare insights into how Wall Street makes decisions, plus a few excellent points about the inadequacy of financial theory as science. Derman¿s descriptions of options theory and financial models sometimes approach clarity, but may be far beyond the lay reader¿s understanding. We recommend this book to avid students of Wall Street and to any academic contemplating a move there. General readers who would enjoy Derman¿s reminiscences, and who do not mind tackling some dense scientific and financial material, will find an in-depth life story with moving reflections on the disparity between youthful ideals and mature compromises.

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  • Anonymous

    Posted December 22, 2004

    A must read for quants, their managers, and everyone else too

    After reading Emanuel Derman's memoir, 'My Life as a Quant', I realized just how precise the selection of each word in the title phrase is. Yes, Derman is indeed one of the foremost experts in the field that is known today as 'financial engineering' and many on Wall Street would name him first if they were asked to give an example of a great QUANT. But far from being just an account of the professional field, this book is much more - it is an account of LIFE, its journeys and decisions, the people and the times. But ever so modest, even while philosophizing, Derman did not forget to put the word 'MY' in the title - it must have been the instinct of a physicist and a financial modeler who has seen too many theories stretched beyond their range of applicability that made him to explicitly narrow down the claim to the universal truth about the life of quants. The book is touchingly personal, almost impossibly honest for the world of Wall Street, where everyone keeps their cards close to the vest, and no one likes to admit being even slightly wrong. Following the footsteps of his favorite anthroposophist Rudolf Steiner, Derman opens to the readers the complexities and confusion of life, the mistakes as well as the great accomplishments, the accidental as well as the purposeful. This book is a must read for any scientist who contemplates a career in finance. Moreover, it is a must read for any manager who faces the everyday challanges of keeping those unruly quant minds in line. And finally, it is a must read for everyone else who could use something more intellectual than Dilbert cartoons (and even wittier at times -- if you can read between the lines) as a conversation topic about keeping one's sanity in the corporate world.

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  • Anonymous

    Posted October 20, 2004

    A Writer and a Gentleman

    'My Life as a Quant' is not just a book that everyone on Wall Street should read. Given the highly quantitative nature of finance, practitioners from all parts of the trading world will find Derman's comments illuminating and insightful. It is the book most quants (that is, physicists turned quants) have been dreaming of writing since they were given access to the world of finance. Derman describes the common path of a physicist's acceptance of his own mediocrity in the last paragraph of pag. 28. Each one of us starts their career in physics by dreaming of becoming the next Einstein. Soon we find ourselves envying the post-doc who has been invited just to give a talk somewhere or has published a 4 page Phys. Rev. Lett. soon to be forgotten. He does a wonderful job of making clear that in order to be successful on Wall Street you really need to get your hands dirty. For every theoretician on Wall Street, a few that are equally good at computers are necessary as well. This is more true today than ever before. Also, he points out a cathartic quality of doing simple and useful work that others value. During stretches of low or no inspiration (99% of the time), it keeps you afloat, paid, and with no feelings of deep frustration. To everyone, Derman is that physicist who made the transition from particle physics to doing something great at Goldman Sachs. That much is certainly true. In addition, he is also a compassionate gentleman. I know of many people around the world who he has helped especially at the very beginning of their careers. He feels for cranks too. Derman has proved to be a brilliant writer. He left signs of this in previous publications by citing Aristotle more often than martingales. You always had the impression that he was a writer trapped in the format of Goldman Sachs Quantitative Strategies Research Notes and its disclaimers. Wiley has finally unleashed him.

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  • Anonymous

    Posted October 19, 2004

    Well worth reading

    I normally do not read biographies, and I don¿t think I have read an autobiography since I was forced to read one in high school. Most autobiographies are simply exercises in celebrating the successes of a great life. I chose this one because Derman has always been a fascinating person. One of the first physicists to make it big on Wall Street, he¿s best known as co-creator of the Black-Derman-Toy term structure model and the Derman-Kani volatility smile model. I had read his finance research, some of his lighter reading, and had met him. I knew he wasn¿t one to gloat. This book delivers everything I expected. Offering fascinating insights into the culture of organizations he has worked for, such as Goldman Sachs, Bell Labs, Salomon Brothers, and the crazy world of academic physics, Derman takes us on an exciting trip through a career that parallels the emergence of finance as a scientific discipline on both Wall Street and in academia. What fascinated me the most is how he describes his achievements in very modest terms, carefully explaining what he discovered but without trying to make you think that his findings changed all life on earth from that point forward. And he is remarkably candid about his mistakes, which humanize this book in a way rarely seen when someone is telling their personal story. If you¿re interested in finance, physics, academia, or you¿d just like to read an autobiography the way it ought to be written, this book is for you.

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  • Anonymous

    Posted September 27, 2004

    Delightfully Rendered

    As the path from Physics to Wall Street is looking more and more like a highway these days, Derman's book is especially relevant. I dare say there are Wall Street shops that have bigger Physics Departments than some Universities. His journey from Physics to Finance is a fascinating one and sure to entertain. One anecdote even had me laughing out loud on the train during my morning commute. Derman is highly regarded in his field. It would be a surprise to encounter a Quantitative Analyst (Quant) working in Finance who is not familiar with at least one of his models. He is also an excellent writer who is able to explain difficult concepts to the lay reader. I found his descriptions of what it is like to work both at Goldman Sachs and Salomon Brothers especially illuminating. His portrait of Fisher Black was especially poignant. As a former Physicist who now works as a Financial Engineer, Emanuel's book really hit home. It was exciting to see a story close to my own so delightfully rendered.

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  • Anonymous

    Posted September 25, 2004

    Goodbye Tom Wolfe, Hello Emanuel Derman

    Quants are becoming the new 'masters of the universe.' Reducing money making from art to science, Derman personifies this new breed. A natural storyteller, he writes with the eye of a novelist, the insight of a physicist, and the instincts of a trader. Buy the book.

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  • Anonymous

    Posted June 18, 2010

    No text was provided for this review.

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