The abstruse subject of quantitative finance has emerged from obscurity recently, with its mathematical models blamed for causing the economic crisis. Nobel Prize winning economist Paul Krugman, for example, believes ‘beautiful mathematics’ blinded people to the possibility of catastrophic market failures.

So it might seem a bad time for Oxford University to launch a new research institute devoted to quantitative finance, funded to the tune of £13.75m by hedge fund manager Man Group, which has its headquarters in a low-tax regime in Switzerland.

However, the Oxford-Man Institute’s director, Prof Neil Shepherd, says the timing couldn’t be better and that — far from leaving economists with red faces, the credit crunch and economic depression could lead to a renaissance of the subject. And he is clear about the causes of the crisis.

“The initial start of the credit crunch was due to global imbalances in the macro-economy,” he said. The time-bomb of sub-prime mortgages was magnified by legal problems and, he agrees, “somewhat naive” mathematical modelling.

“We need to understand the interaction of the political, legal, economic and mathematical aspects of what happened,” he said.

He also believes that economics, and the other disciplines, can show us a way out of the crisis, for example by encouraging China to invest in better social security so that the Chinese can ease the trade imbalance by spending some of their money, instead of hoarding it for health costs and their old age.

“Mathematicians are bringing in psychological research — behavioural finance — to explain how people behave irrationally, for example hanging on to losing positions longer than they should, and the implications of that for different aspects of the financial markets.”

At the institute, mathematicians, economists, statisticians, engineers, computer scientists and physicists work alongside business theorists. “We are trying to encourage mathematicians to have a wider view of finance, and to get lawyers to understand the reason why mathematicians or economists want a contract to be written in a certain way. The interaction of academic disciplines is the raison d’être of the institute.”

He says sharing space with Man Group’s commercially-driven fund managers will give his researchers insight into the real world. “We start and carry out our research because it is curiosity driven, but we share facilities where we can have coffee together every day. That level of interaction has not been tried before.”

His own research has been helped by being introduced to the superior market data used by traders, with a time lag of 17 milli-seconds. “It’s very high quality data compared to what we use in academia,” he said.

Man Group obviously values the connection, sending some of its top brass for the opening ceremony last month. In return for its millions, it gets first refusal on any commercially-useful research — plus a preview, via seminars and discussions, of some of the 100-plus academic papers written by the university’s top brains.

The hedge fund’s subsidiary AHL, specialising in ‘managed futures’, has moved about ten of its researchers into a separate office at the institute, mostly young men beavering away at complex calculations on computers to help AHL trade billions of dollars.

Director of research Anthony Ledford is a former maths and statistics lecturer, while chief executive Tim Wong is an Oxford engineering graduate. Having expanded into the institute’s base at Eagle House in Jericho, on the site of Lucy’s former engineering factory, AHL plans to recruit up to 16 more staff.

He said: “It was natural for us to come to a place where there was a concentration of talent. That’s why we have come to the university, which has all these academic disciplines, so that we can understand these people and the research they’re doing — and signal to them that there is another role for them if they want to use their skills in a business environment.”

He added: “The collaboration benefits us enormously and allows us to hear about OMI’s academic theories first and share ideas with some of the world’s best quantitative finance academics; promote our name as an exciting and innovative employer within Oxford’s academic community and research our own ideas in a stimulating environment.”

AHL sells investment products that seem mind-bogglingly complex until Dr Ledford shows a performance graph. The company’s clients — institutions such as pension funds, and ‘high net worth’ individuals — get a basket of investments designed by computer programs to avoid the roller-coaster volatility of global stockmarkets. AHL’s graph goes up and up, while the value of equites see-saws uncontrollably, with the horrific dip last autumn which ended many people’s dreams of a prosperous retirement.

“The reason people come to us is that we provide a return that is uncorrelated to stockmarkets, and that’s what a lot of pension funds want,” he said.

So perhaps we must hope that Dr Ledford’s employees will solve our retirement time-bomb, while Prof Shepherd’s researchers dig out new theories of markets.

The professor is optimistic that, for his subject at least, the financial crisis will have a positive side. He hopes his institute will become world-beating, concentrating on “the next big idea” rather than incremental change.

He said: “Working through this period has been extraordinary. Many people are going to have such distress because of the rippling out of the problems in the financial markets hitting the wider economy.”

For his subject, the 1930s Depression was an innovative period. “Students were motivated to study economics because of the Depression and it will be interesting to see if there are similar trends in future.”