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actuaries vs quants

G

Gareth

Member
here's an interesting discussion:

http://www.wilmott.com/messageview.cfm?catid=3&threadid=795

I found this bit especially amusing:

It's always good to learn from other fields, and there is much in statistics and actuarial science that finance people could put to good use. However, much of the progress in finance has come from ignoring good statistical and actuarial practice.

For example, you ask why not put a confidence interval around VaR. It's good statistical practice whenever you make an estimate, to also estimate the error. However, VaR is supposed to incorporate all uncertainty, including uncertainty of estimation (whether it does in practice is another question). Putting a confidence interval on it would mislead people about what it is.

A statitician says her prediction was correct if the distribution of errors is what was expected. This leads to a lot of happy statisticians with angry clients, sort of like the old surgeon's joke "the operation was successful but the patient died." Finance people have to measure success by making or losing money. You can't trade a confidence interval.

Resampling and bootstrapping have an important place in finance, but parametric techniques will always be paramount. The reason is that money adds. You cannot either ignore or overinterpret "outliers," you have to add up your total P&L.

I agree that there is more to finance than mean and standard deviation, but it's amazing how much you can explain with just these two concepts. Since money adds, the mean is essential. Since time period returns are very close to independent, and it's a big world of trading opportunities, and money adds, the higher order moments can usually be diversified away either through time or space.

My first financial job in 1981 was in capital markets for Prudential insurance. My job was to price actuarial contracts, for example, Prudential would bid for a cash payment today in return for paying the retirement benefits (for something called a "defined benefit plan" that went extinct in the last geologic age) of 1,000 40-year old workers. The actuaries would analyze the plan, project the employment events and mortality of the workers, and come up with a set of projected cash outflows. I was supposed to give them a price to bid to the plan sponsor. If we won the plan, I was supposed to select investments (in some cases, dedicated portfolios, I selected the actual investments; in most cases the plans were combined in "Separate Accounts" of similar plans, I would then set investment parameters like equity percentage and bond duration of these accounts).

I argued that I needed more than one set of most-likely cash flows from the actuaries, I needed to know how those flows changed with respect to inflation and the company stock (these were the most important determinants for individual plans) and general mortality and the economy (these were the most important systematic risks). Then I should not be setting static parameters or picking buy-and-hold investments, but dynamically hedging things.

The actuaries fundamentally didn't understand this, despite my extraordinary lucid and passionate presentations. Their profession was built on zero-beta risk. Their understanding of an insurance company was you made bets with people, collected the expected present value of the payoff at the risk-free rate, added your profit and trusted to diversification and the New York State Insurance Commission to prevent you from going broke. In some ways this was realistic in an era of regulated insurance costs. But you can see how annoying it was to someone fresh out of a quantitative finance PhD program.

On the investment side, the old-line traders who ran the portfolios wanted nothing to do with computer models or complex strategies. They wanted some money to run and a stable benchmark to beat. Their profession, in those days, said that their job was to make money by spotting superior securities and trading opportunities, and that the rest of the insurance company existed only to give them money to make more money with.

Fortunately the one actuary I saw eye-to-eye with got appointed Chief Actuary of Prudential (an honor a medievalist would understand), and I got a free hand. $3 billion of asset-liability dynamic hedging done with homebrew programs on a first-generation IBM PC in Visicalc and BASIC plus a few Fortran programs I wrote for a time-sharing mainframe. In those time-share days I got in the habit of prefacing all my file names with "AA," both for "Aaron" and to be first in a sort. The program for pricing a Savings Protector Contract was AASPC.BAS. Thirteen years later, I happened to see the output of a Pru pricing of a Stable Value Product (the successor to savings protectors). This 1990's era, Oracle/C++ professional implementation was still called AASPC.

This history inclines me to fight the introduction of actuarial concepts into finance. They are useful, but before importing them you have to understand why they aren't natives.

So is todays new actuary the same, or have we improved?
 
Quants sit behind a computer doing the "fiendishly complicated maths" Actuaries are supposed to communicate the results of the exercise :)
 
ah now with the invention of mortality and catastrophe derivatives, will the actuary be the natural candidate to start doing the quant maths in an actuarial context, or will we pass this opportunity by?
 
umm....

given the need to deliver practical solutions to clients, you would think that actuarial involvment in this new "quanty" area would still lean towards interpretation/communication of the financial implications, with actuaries playing a limited role in any of the mathematical wizadry required - if any wizadry, sophisticated modelling ever is required i think it would drift toward being the hands of quant types...

but im sure it would take a long time for any robust proceedures to be developed to even contemplate any rocket science/non actuarial approach to such valuations.
 
To answer the initial question - yes, we've improved. My boyfriend qualified back in 1987 and he only had to do 10 exams to get his fellowship. Lucky thing. He'd never even heard of half the stuff I study. Which is why I believe that newly qualified actuaries get paid more than ones who qualified yonks ago. And why alot of the job advertisements ask for newly/nearly qualified actuaries.

I believe that the actuarial exams have also started to incorporate more findings from other professions than they ever used to. We used to believe that we knew best and were the be all and end all of the universe. I think now the institute has accepted that other professions may have good theories too.
 
Number of exams

KatherineH said:
My boyfriend qualified back in 1987 and he only had to do 10 exams to get his fellowship. Lucky thing.
In his defence, 6 of those exams consisted of morning and afternoon papers, so that makes 16 papers in total - not quite so lucky when looked at like that. Many students today think it's awful to have to sit two papers on the same day.

I qualified across two exam structures (1 to 6, E-H, Q) and this involved me having to sit 18 exam papers to get my FIA, with no choice of subject except the final fellowship paper. And so that I could still call myself a proper actuary I later sat CiD as well to keep up-to-date. That makes 19 exam papers.

And how many papers do you need to sit under this current system? And how much choice of subjects do you get?

Isn't it odd how everyone thinks they had it toughest?

But at least I don't have any exams in the next few days. (He He :p )
Hope it goes well for you all, with no nasty surprises.
At least you get to enjoy the Easter Bank Holidays this year :) .
 
With respect I work with the programs that have been mentioned in that article, and to be honest, they should have been scrapped in the 80's

IBM PC in Visicalc and BASIC plus a few Fortran programs I wrote for a time-sharing mainframe.

The code is archaic, and to be honest actuaries do not make good programers IMHO.
We are not quants, we deal with the very long term, whereas most quants are interested in the short-term (3-month derivatives etc).
Most cashflows would now be considered stochastically, but only because it is now practical, in the early 80's the computing power was not sufficient to do this.
 
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