The Algorithms Outpacing Wall-Street

The Algorithms Outpacing Wall-Street

Can computers replace human traders on Wall-Street?

Timothy Ryan, PSFK Labs
  • 13 april 2011

Increasingly, artificial intelligence is outperforming human traders on Wall-Street.

Cliff Asness is the founder of Applied Quantitative Research (AQR), one of the world’s leading quantitative-investment, or ‘quant’ fund companies in the world. Using high-speed computers and financial models of extraordinary complexity, Quants have consistently beat the market over the last decade. Even in the aftermath of the 2008 financial crisis, by the end of 2010, AQR had $33 billion in assets under management, up nearly 20 percent last year, after being up 38 percent in 2009.

The analysis is rooted in two simple concepts: buying undervalued stocks and betting against overvalued ones:

Using a variety of metrics, the AQR models spit out the names of hundreds and hundreds of stocks that are undervalued (which the firm buys and holds) and hundreds more stocks that are over-valued (which they short, or bet will fall).

Through a series of hedging riskier stocks against more statistically secure investments, quants are said to be able to deliver a diversified portfolio with greater returns. Because quants have the ability to study thousands of stocks at once, they boast one of the most broadly diversified portfolios there is. A case study for the strength of Asness’s quant diversification method can be found back in 2001-2002, when the company profited immensely during the bear market. The internet bubble had burst and Asness’s computer algorithm had shorted those stocks, while diversifying with more stable financial products ranging from mutual funds, to a variety of funds available only to sophisticated institutional investors.

The method has both its drawbacks and criticisms. Some believe that the mortgage backed securities meltdown of 2008 was facilitated by quants giving investors a false sense of security. As written in the Atlantic:

The risk-control models these firms pioneered encouraged Wall Street to take on excessive leverage. Their trading strategies, which deliver excellent returns in normal times, functioned poorly in the irrationality of a financial panic, and reinforced a frenzy of selling.

At this time, Quant investing remains a relatively small part of the financial world, perhaps $500 billion according to The Atlantic.


The Atlantic: “Man vs. Machine on Wall Street: How Computers Beat the Market”


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