Improvements in technology are pushing the boundaries

It is just over a year since Google’s DeepMind AI did what some thought was impossible and beat the reigning world champion at Go, a classic board game with almost infinite potential outcomes. Many think this was a watershed moment for AI and machine learning computing, just as IBM’s Deep Blue chess defeat of Gary Kasparov was for supercomputers-of-the-day in 1997.

Today, quantitative investment strategies, which use advanced computing techniques to autonomously analyse data and execute trading strategies, are attracting notable inflows from investors, growing at rate of 12% each year during 2015 and 2016 according to Preqin. Quantitative investment strategies can trade relationships that discretionary traders would find difficult or impossible to replicate. Systematic implementation eliminates the arbitrariness that pervades unconstrained discretionary strategies by removing emotional and behavioural biases.

There are two ends of the quantitative-investment-strategy spectrum: quantitative hedge funds at one end and smart beta funds at the other. Advances in computing benefit both ends of the spectrum, but in different ways.

Improvements in AI and machine learning are pushing the boundaries as to what is achievable in quantitative hedge funds, many of which are capacity constrained and seen as expensive by much of the investment community. However, they have the resources to invest in the latest technology and hire the smartest people in order to improve alpha signal generation from the ever-increasing amount of data that is available. Investors can achieve superior absolute, risk-adjusted returns from the very best quantitative managers.

Improvements in general computing power are providing a platform for smart beta funds to execute investment strategies. Just as today’s iPhones have more computing power than the supercomputer that beat Gary Kasparov in 1997, smart beta strategies are using statistical techniques seen by many to be somewhat homogenised.

It can be said that technological improvements are benefitting investors in many ways and the alpha of today is the (smart) beta of tomorrow.

Bull Point

• The top quantitative hedge funds are hiring some of the smartest computer scientists in the world and competing with the top technology firms for talent.

Bear point

• With the extensive universe of quantitative managers to choose from and a significant dispersion of performance across the strategy, the key is knowing how to select the managers that have the quality of infrastructure and intellectual talent to benefit from fast moving technological developments.