http://mitworld.mit.edu/video/878An unmistakable glow of nostalgia rises from this reunion of “five of the founding fathers of modern finance,” in the words of Andrew Lo. The speakers reminisce about their start in economics, and their professional lives at MIT, a decades-long era of intense collaboration and creativity that both transformed the academic field and the landscape of real-world finance.
This group of scholars believes they owe much to luck in finding their lives in financial economics. A sympathetic Stanford professor directed Stewart C. Myers to the right doctoral program, at precisely the moment when “big ideas were flowering” in the discipline: efficient markets, agency costs, and most important to Myers, new theories about valuation. A call came from MIT to join the faculty, and Myers began his critical work around the principles of corporate finance, which turned out to have great practical applications. Says Myers, “It’s really good to go out in the world now and talk to CFOs actually using this stuff.”
Raised in a Canadian family that traded in gold,
Myron Scholes was interested in “how things were valued,” but it was a summer job as a computer programmer for university researchers that set his career path. Assisting Franco Modigliani and Merton Miller, Scholes found infectious their “joy of getting results, and asking the next questions.” He came to MIT in 1968, and became fascinated with options, insurance and distributions of portfolios. He met Fischer Black his first summer, which led to the first of many intellectually profitable partnerships, some of which continue to this day.
Among other twists of fate, a switch in grad school from applied mathematics to economics, and the good sense of MIT to offer him a fellowship (following rejections by eight other schools) brought Robert Merton to Cambridge. After taking Paul Samuelson’s mathematical economics course, “the rest was history,” says Merton. “I lived in his office from the end of that class on.” He was hired at graduation by the Sloan School, and joined a “very small group, with no senior faculty. It was like all these kids and nobody to look after them.” They designed courses, did research, “had a blast. The research flowed so fast for us and the students; there was not enough time to do it all. That doesn’t happen often.” Merton’s work was also stimulated by the economic catastrophes of the 1970s, which fed an intense drive to put research around better markets mechanisms into practice.
“I can’t remember a time when I didn’t want to be a professor, and economics seemed special,” says
John C. Cox. In the mid-1970s, the pathbreaking work of Merton, Black, and Scholes offered “plenty of low-lying plums to be picked in the orchard. It seemed like a golden age for capital market theory, so much to do.” The group he joined at MIT has evolved, and the programs expanded, but Cox “has enjoyed every minute” of the past 30 years.
Stephen A. Ross discovered he loved a certain kind of math while taking a course in game theory and linear programming to fulfill his Caltech humanities requirement. But it wasn’t until he attended a mathematical economics seminar focused on MIT work that he realized he was interested in finance. “It was the most fascinating stuff I’d ever heard.” He especially liked the “science” of it, “that theory and data had to relate in some way.”
Ross defends financial engineering and its applications in the wake of the financial crisis. “Derivatives did what they were supposed to do. They spread the risk. The problem is the people who took on the risk didn’t like the fact they lost money.” Scholes wonders about rules that “let 1.5 million contracts go due in the derivatives swap market instantaneously for settlement. It sounds nuts to me.” Says Myers, “It’s true that modern finance is a powerful tool and can be misused, but it’s not a reason to discard the tool. It’s a reason to use it better.”
