Quant Investing: What it is, how it works and whom does it suit – Find your answers here

The speed with which new quant funds are getting launched in India is also picking up which will present investors with a variety of options.

how quant funds work
A quant fund is simply any strategy that extensively uses quantitative tools and techniques to make investment decisions.

There are active mutual funds and index funds and then there are quant funds. In an active fund, a fund manager plays an important role in identifying the right industry, stocks and accordingly makes an allocation, while in an index fund, there is no role of a fund manager. A quant fund differs a bit from them as the fund is dependent on an automated system to make buy, sell decisions in a portfolio and the fund manager’s role is restricted to monitor and design the portfolio. Sankaranarayanan Krishnan, Quant Fund Manager (PMS & AIF schemes), Motilal Oswal Asset Management Company, in an email interview with FE Online helps us understand the world of quant funds and whom they suit.

Quant investing is steadily becoming popular, what exactly it is and how are they different from algo trading?

‘Quant Investing’ is an umbrella term that can be used to describe a wide-variety of investing strategies – everything from high frequency trading, which happens at a sub-micro second frequency, to a strategy that owns the same portfolio for over a year falls under this broad categorization. However, at its heart, a quant fund is simply any strategy that extensively uses quantitative tools and techniques to make investment decisions. Human involvement in such funds is largely limited to developing the investment tools and models.

Algo trading is a branch of Quant investing where even the placement of orders is automated. Algo trading is typically characterized by large trading volumes – at speeds which cannot be matched by humans. However, not all quant investing strategies need automated execution. Typically, strategies which trade once every quarter can be executed manually as well.

How has been the performance of Quant funds over a longer time frame and whom do they suit?

The history of quant funds in India is very nascent and most of them are present in alternative investment vehicles such as PMS and AIF. Hence it is slightly difficult to objectively evaluate their performance over longer time frames.

Globally, quant funds are well accepted and command sizable AUM, exceeding 1 trillion dollars. The speed with which new quant funds are getting launched in India is also picking up – which will present investors with a variety of options.

Whom does Quant Fund investing suit?

It is an interesting space for those looking to get a differentiated, systems driven approach to investing which will be free from fund manager biases. However, every quant fund will typically try to address a different need, and it is important to understand this along with risk factors before one considers investing in these strategies.

What are back tests that are shown by quant funds? How useful are they in predicting future returns?

Back tests are an important element of the quantitative investment process. They seek to demonstrate the historical performance of a strategy – had it been in existence in the past. Back tests are useful in determining aspects such as consistency of the strategy, behaviour in various market conditions and general trend of performance if the period of investing is long enough. However, back tests often paint a more optimistic version of reality and should be taken with the caveat that future performance may be different from past data.

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