Financial models are often accused of being artificial and out of touch with real, underlying economics. It’s time for quants to take seriously the workings of the engine, critics say – rather than polishing the mathematical chassis.
Credit risk is one area where this was famously the case. Default times were said to be driven by systematic and idiosyncratic factors, with a co-dependence structure provided by a copula function. This did not go well for the industry in 2008, when systematic