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The Role of Physicists in Finance

• Quantitative Analysis (Quants): Physicists are highly sought after by investment banks and hedge funds due to their strong analytical skills, experience in tackling complex problems, and ability to use sophisticated mathematical techniques to break down seemingly complicated problems into their constituent variables.
• Model Development: They develop mathematical models to price financial instruments, manage risk (market risk, credit risk, liquidity risk), and predict market behavior. The core idea is to treat market dynamics similarly to how physicists treat natural phenomena like heat diffusion or particle motion.
• Derivatives Pricing: The pricing of derivatives was a primary entry point for physicists into finance. The famous Black-Scholes formula, a cornerstone in options pricing, uses a differential equation similar to those used in physics to describe random processes. David Gershon, a theoretical physicist, used his background to develop ways to price derivatives in real-time.
• Complexity and Risk: Financial markets are complex, non-equilibrium dynamical systems, providing a rich field of study for those with a physics background. Physicists help manage risk by creating models that track the impact of various risks on portfolios.