More and more quant trading strategies are being used by big hedge funds and other big financial institutions to make high returns in the market. Quants are maths, physics and finance PhDs whose only job is develop algorithms that can beat the market. Sounds like an elusive dream? The basic job of quants is to model the financial market and then make predictions that can be used to make profitable investment decisions. Watch the video documentary below that gives you the chance to understand what are quants and how as a retail trader you are pitted against them.
Last year, while the average hedge fund was losing money and several prominent hedge funds were getting clobbered by the markets, David Siegel got on a stage at a conference attended by investment professionals and declared that “eventually the time will come that no human investment manager will be able to beat the computer.”
High sounding words? Right now it is pretty difficult to predict price due to its highly non linear nature. The very act of trying to predict the price changes the price. So how you are going to predict the price? At the moment it is very difficult to predict the price. Suppose there is a super computer that can predict the price with a high degree of accuracy. Suppose that super computer is owned by a hedge fund. What happens the hedge fund uses the predictions made by that super computer to make heavy investments. Everytime the hedge fund makes investment price differential vanishes and the hedge fund just earns a low return. So you can see how difficult it is to play with price. As soon as the expectation develops in the market the price is going to move high, buying pressure develops that soon removes the differential and the opportunity vanishes as soon as it was spotted. This is how arbitrage works in the market. Arbitrage is a huge force that makes the market efficient.
We said markets are efficient. Are they? In the long run markets are indeed efficient but in the short run markets can be highly inefficient which means if you are an intelligent investor, you can use that inefficiency to make short term profit in the market. Quants use mathematical algorithms to predict the market. The problem: those mathematical algorithms work only as long as they are only known to a few people. When majority of the people start using those mathematical algorithms, they stop working. What you call it? Loophole. A market loophole works for a short time but as soon as it becomes widely known these loopholes stop working. You should also watch this documentary on a genius algorithmic trader who tries to challenge Wall Street.