## Thursday, April 26, 2007

### Don't sweat the quant stuff

We generally think that workers in India are good at the quant stuff. But is this just stereotype, or is it real? On one hand, 12th standard CBSE mathematics - which the ordinary Indian worker has generally mastered - exceeds what high school students in the US know. India has a significant edge here against the US, though not against Europe. On the other hand, college education in India is pretty awful, and this has generated skepticism about the potential upside for BPO in India. Very bright MBAs in India tend to be underskilled in probability, statistics, optimisation, financial economics; they tend to use spreadsheets too much. Their counterparts - the best MBAs from top schools in the US - seem to be better trained in these four critical blocks of knowledge. (I am comparing like to like: MBAs from the 3 best IIMs and ISB against MBAs from the top 10 schools in the US).

Thanks to Tirthankar Patnaik, I saw mention of an intruiging study by Ravi Aron of Wharton (link):

Questions abound about job functions that are likely to gravitate to places like India sooner than others. Some insights into this can be had from the concept of a "mechanism for complexity arbitrage" that Aron and colleagues worked on in a recent research project funded by the Mack Center at Wharton. The project involved collecting data covering three years from several companies about various processes and the places where they were performed across the globe. Managers at these companies overseeing those processes where then asked to rate each of them on a complexity scale of one to seven, with seven being the most complex.

The researchers found a striking polarization in the way managers assessed the complexity levels in their processes. Those in the U.S. and the U.K. formed one group, while their counterparts in India, China and Singapore made up the other. "Whenever work involved number crunching, quantitative analysis, mathematical formulation, statistical data analysis and numerical calculations, managers in India, Singapore and China would say this is low complexity work," says Aron. "They could find the people to do those jobs and deliver quality on scale, month after month, year after year. But wherever work involves persuasion, communication, context-sensitive responses, interpretation, subjective judgment and cultural sensitivity, managers in the U.K and the U.S. will tell you that is low complexity work."

Are there natural limits to the kind of work that can be offshored? Of course, says Aron, but he adds that Indian service providers will not encounter them "as long as they do not breach the complexity divide." He says certain job functions are a natural fit for the U.S. and the U.K. and not easily outsourced, because they require customer interactions and persuasion. These are activities that are "embedded in the context of the market and they need context-sensitive communication," he says. "The Indian market is nowhere as sophisticated as that in the U.S.; it does not have the range of derivatives like in the U.S. market, and futures and options are just beginning to catch on.

Also see here, another demo of the external perception of Indian quant prowess. How fascinating. Managers in India, Singapore and China think that the quant stuff is "low complexity". :-) I believe similar things are happening in Silicon Valley: many startups are organising themselves as a marketing front-end in the Bay Area, and the engineering team in India. If these effects are real, global capitalism will reshape the geographical allocation of production: activities involving the quant stuff are going to increasingly move to India, Singapore and China. This bodes well for MIFC. If you have the MIFC book handy, see page 172-176 on human capital which offers a gloomy perspective on this, and Chapter 5 on BPO. Both segments of the MIFC book paint a relatively gloomy picture: but maybe (in the light of the above) things are actually a bit better than portrayed there.

Once such a process gets going, it will be self-reinforcing, and it will induce effects that are reminiscent of the specialisation seen in evolutionary biology, where small mutations are accentuated by natural selection, and species separate themselves out in plying different trades. In the decision-making of the global firm, tasks that involve quant skills would be more likely to get sent to India/Singapore/China, while tasks that involve more cultural context are more likely to get done in an industrial-country setting. In the decision-making of the individual, people with quant predilections are more likely to move to India and people in India face a higher marginal product of investing in quant skills. Both these effects (at the firm and at the individual) would reinforce each other.

How will human capital build up in the context of terrible colleges & universities? I think learning-by-doing is the key. The last paragraph of the above quotation rings true to me. With weak colleges and universities, learning is dominated by on-the-job accumulation of skills. I would advise every victim of the terrible higher education system in India to intern, intern, intern and build up on-the-job skills, accompanied by a higher intellectualisation based on a self-study program of reading the best books and textbooks so as to not become a narrowly-specialised technician [link].

Index futures trading is active in India, so there is now plentiful talent that knows how to do index arbitrage. Interest rate futures trading in India is effectively banned, so naturally nobody knows anything about interest rate futures arbitrage. As the local financial system bulks up to higher levels of complexity, this feeds into the range of skills where there can be a global role for Indian professionals. There is thus a three-way synergy between (a) the BPO, (b) the local financial system and (c) the MIFC agenda: each feeds into the other. Conversely, a strategy of financial repression, where products and activities are banned in the domestic economy, has bigger costs than meets the eye: it hurts not just domestic finance but also the BPO and the prospect of MIFC.

1. Indeed, this post exposes 'inter alia' the weaknesses of the Indian academic Curricula /systems. This is more pronounced case with professional/statutory courses of studies in Accounting, Management etc. (I possess post-grad degrees in both these disciplines:-( ). Needless to mention, the gaps are patently visible.

I recently interviewed a candidate (an Engineer/MBA-Finance) for a position in my division. She admitted that she 'did not know' anything about CAPM in portfolio analysis. I have several such instances to quote.

We lag behind, terribly. Perhaps the inebriation with our 'past glory' and stereotypes viz. we are THE brainiest lot.. etc. refuse to open our eyes to the REALITY, which we are not disposed to confront with humility. We see this in almost all spheres.. technology, industrialization, innovations etc.

Partly to blame are the criteria deployed by premier centers of learning like the IITs/IIMs. Exams like JEE/CAT should be given with the intent to test the thought-processes inside a fertile mind and thereafter pick an elite group. But today we have 'coaching classes' that smother a student-hopeful with so many types of practice Q&A-s, such that the latter figures out that at the JEE/CAT, a particular question is similar to the one she had 'solved' in her 'classes' a few months/weeks ago. Pattern-Recognition Robots !!

If this is the situation with India's 'temples of learning'-- IITs/IIMs, less said better about the lower rung colleges.

Issues like these will have SERIOUS implications of the long term competitive advantage of INDIA.

R.Shankar
Mumbai

2. you mention self study.

Can we get alist of the books to start with and then build on.

3. Hi,
You mention that we have a perceived advantage in Math as our CBSE/State board standards in the subject are much higher. A student graduating from high school in India definitely "knows" more maths than his counterpart in US. But in my view, the similarity ends there itself. While knowing all the Integration tables and Physics formulas is a matter of rote memorization, to apply them to solve problems is another.

Having completed 12th Science stream from Gujarat Board and studied basically the same subjects as a freshman at a Community college in the US, I can vouch for the fact our teaching is as rigid as it can be. The emphasis in US classrooms is not so much on how much the student can remember from the textbook but on how the concept taught in class applies to the real world problems. Also visible in US, is a hands-on approach towards problem solving. We are never taught in a high-school class to actually make or fix things. Our sole reward lies in how much we can remembering by heart (even in mathematics and physics, to a large extent). This, I think, differentiates Indian high-school graduates from American ones. Independent thought process and individual approach towards problem solving in not only not encouraged, but also actively discouraged.

Another point to be noted is how the tuition/coaching classes have impacted the education system in India. Typically, a student in these classes is told, "You solve so and so number of problems, memorize these specific answers and
you will get X marks." A student does this and surely enough, scores
such desired marks. Quiet funnily, actually, the coaching class becomes a revered institution in the eyes of the student. In doing so, he hasn't learned the subject but has been spoon fed a key to manipulate and bypass the system. The same problem exists even with IIT-JEE, AIEEE and other entrance exams. They have been "cracked" by these coaching classes. The creativity and the power to innovate when faced with a challenge, is thus stifled. Really, I cant but help myself laugh when someone praises these classes for raising the academic bar of education in India.

4. If our high school education is bad and our colleges/universities are bad, then how do we explain the evidence shown in the blog entry, where we have an edge in the quant stuff?

One of the two have to be working well. I believe it's the CBSE/JEE stuff which is generating 200,000 to 1000,000 well trained kids every year. By "well trained" I mean people who can effortlessly solve quadratic equations or differentiate sin(x)/x or orally calculate e^{i pi} + 1. Yes, we are not good at teaching how to creatively apply this stuff. But it's just fantastic to have 200k-1000k children coming out every year with such strengths.

Intuitively, think of a school system that produces people who know english grammar. That's the raw material - you still have to have something to say. But if a person comes out of high school with perfect knowledge of english grammar, that's a wonderful foundation to have laid. One day, the message will appear in his mind, and he will know how to put it out in perfect English.f

In similar fashion, a rigorous high school education based on CBSE/JEE produces the latent strength for dealing with quant stuff for life. Yes, at that age the person is obviously unable to do much creative problem solving. But the language of writing down models and solving equations is established. That gets put into applications in the labour market. If only these kids didn't have to waste three years at college after that.

5. The advantages of backend Quant jobs in India are of two folds:

1. Quants can hope for better job and better salary, as Indian Industries including Banks/MFs are not so keen on hiring a quant. (I wanted to work for Indian Banks/MFs, tried to convince them, but it did not materalised. Just check out Marketing material of MFs, they never report Sharpe Ratio or Information Ratio.)

2. Once you start working with MNC (BPO or KPO or Financial Services), you acquire new skills which may be advantegous for your overseas posting.

At the end we are better off.

6. First a specific point about finance jobs.As an Indian and a financial markets worker in the City of London I was surprised by how few "local" (England) grads make it to even to the interview stage of the selection process. The reason, the skills of the average grad at math are indeed quite poor. The number of students opting for subjects like Math and Physics at the A levels (std 12 equiv.)is falling. More With the proliferation of derivatives most of the new jobs getting created demand these skills. So it is left to the others i.e. continental and eastern europeans and Indians etc to fill these roles. I am amazed how few Americans or English guys one finds on some of these teams. (Caveat - The few that one finds are sometimes truly brilliant, make no mistake about that!) This partly explains the frenzy to hire from the IITs and IIMs. Now, with the growing importance and profitability of these desks, their prominence within the firms will also grow.

Next the more general point. The soft skills are a matter of exposure and confidence. But the hard skills are absolutely critical. You can't run an economy on the basis of marketing and brands and lawsuits. If slowly but surely all the actual manufacturing jobs and hence skills move away to China and India such other places, in a matter of 2 generations there will enough expertise and market size in these countries to create and support own companies and brands. They will also accumulate the soft skills along the way. One must realise that the reason why Europe and America are ahead is because the industrial revolution and the attendant industrialisation took place there - at the core, technical skills - and the intelligence and hard work necessary to acquire them. If they begin to neglect these skills then its only a matter of time that they will start to lag. And this adjustment process will be harsher for the "locals" because it will be an adjustment for the worse.

Yes, respect for education and the work ethic is largely there in India, if only we also have the "system" to nurture it better!

7. A relevant story
http://news.bbc.co.uk/2/hi/uk_news/education/6589301.stm

8. It is true that our schools in Indian give enough practice training in Maths (which ofcourse cannot be completely by rote), and are also producing large number of high school graduates in the order of 200K-1000K who are adept at use of mathematics. However, there is still a very big lacunae of the problem-solving skills which should be bridged well in time for the young kids to grow up to be more creative and original researchers, (and professionals). When you are training that number of students in Mathematics, it should be evident that creative aptitude in them (which is still missing) isn't being displayed in corresspondingly large numbers in later years. The lack of these skills cannot be blamed on higher education altogether; a large part of the problem solving and creativity in the thought process is laid early in the years.

Perhaps the blame should be laid on quality of educators at the school-level and the methods of teaching and classroom exercises in early years, as much as on the curriculum of the higher studies in India.

9. "Very bright MBAs in India tend to be underskilled in probability, statistics, optimisation, financial economics; they tend to use spreadsheets too much. Their counterparts - the best MBAs from top schools in the US - seem to be better trained in these four critical blocks of knowledge. (I am comparing like to like: MBAs from the 3 best IIMs and ISB against MBAs from the top 10 schools in the US)."

Interesting post, but I can't agree with the above. (full disclosure: I am an IIM alum who has worked for the last 12 years in the US). I have generally found it quite the opposite. My reasoning for this is:

- IIMs take in a much smaller number of students compared to the top US business schools. HBS batch sizes are huge compared to say IIM A. This is true even when taken as a % of total college grads instead of absolute numbers.
- IIMs take in many more engineers as a %. Basic quant aptitude, in my opinion is primarily formed at or before undergrad. You may find statistics impossible to master if you don't have that basic quant aptitude.

Where I might agree with your observation is a few years after graduating from MBA. I think that Wall Street offers many lucrative career opportunities for people who are strong in Quant and want to go deeper. India doesn't.

10. i would agree with basab above. the US edu system is more progressive, it gets tougher as you move from HS to Phd contrary to India. Sooner or later this is bound to have an impact. It also it can't be ruled out that a lot of it is income effect,i.e advanced math is really hard and once a society becomes farily wealthy it loses interest in quant oriented subjects. if so, then the quant skills of indians appear to be more of a response to higher wages in these fields and less intrinsic aptitude.

i don't agree with you statement that jee/aieee/entrance exams in general raise standards in India. if the above were true, we would see all engg grads(200K-1M as you say) proficient in advanced quant. we know that this is not true.

i think the survey by aaron has it's own probelms. the average firms hiring the math whizz in india offers better money compared to per capita income. the indian firm might be simply fishing at the deeper end of the pool for now.

my conclusion: the real threat to skilled jobs on the derivatives desk aren' smart indians but a couple of chinese+indians+americans coming up with a financial software package or website to do the kinds of calculations that are required on these desks. the big thrust for finance professionals is by far going to come from the domestic industry.

11. totally agree with your last post of Indians and quant skills.
Myself being from IIMA and working in Merrill Lynch in London, I feel the same thing, about Indians lacking in social skills and being a little ahead in quant skills.

It is surely due to the environment we live in India, and education system lays more weightage on academics and scoring marks.
Where as in Europe and US more aspects apart from a simple score is weighed in getting admission.

Anyways I do like reading your blog, and keeps me abreast of financial world in India.

12. Mr CBSE IIT IIM Indian Nuclear Scientist says the price of an option is 10. Come summer 2007 and nobody wants to buy it - ie it now costs 0. Welcome to reality.

13. well this message is for mr shankar from mumbai.
First of all I would like to remove your misconception regarding the coaching classes for IIT. And I am talking about the coaching classes which really gives result. They are not the places where you mug up different variety of question to solve a similar one incase it actually appear in the exam. They prepare you for the worst case scenario. I tell you what the level at which I learned physics chemistry and mathematics was not even taught in the first year of my iit. So before you make comment about jee exam you should better educate urself about the relaity. In fact it is the eroding teaching style of iit which is making these brilliant minds dull.

14. In fact there is nothing special about iits except large infrastructure, timely exams and regular lecture. Professor teaching out there suckks big time. Brilliancy of an iitian has nothing to do with IIT in most case. It is just the rigrous selection through jee and the company of so much diverse and intelligent guys congregated at one place which does the effect

15. "Partly to blame are the criteria deployed by premier centers of learning like the IITs/IIMs. Exams like JEE/CAT should be given with the intent to test the thought-processes inside a fertile mind and thereafter pick an elite group. But today we have 'coaching classes' that smother a student-hopeful with so many types of practice Q&A-s, such that the latter figures out that at the JEE/CAT, a particular question is similar to the one she had 'solved' in her 'classes' a few months/weeks ago. Pattern-Recognition Robots !!"

Mr. u have really pissed me off, u have no idea how difficult are those patterns.

16. Hi.. Thanks for the blog. It is truely enlightening.
I studied at a 'good public school'. While I learnt how to calculate standard deviation but nobody bothered to tell me and know for himself what it actually means and utilized for. This was simply because it was not relevent from 'exam point of view'.
Years in college were even more difficult. While I tried to learn how economics can be applied in real life by reading real life case studies, my friends studies selected answers from "Ten Year Papers". I nearly flunked. That was truely disgusting. I strongly feel I have wasted my three years in college.
Antriksh Bhatia
New Delhi

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