When machines pick stocks for you: Do quant funds suit you?

A quant fund is one in which the investment decision or the stock selection is done according to certain predefined rules based on a statistical or mathematical model.

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Essentially, it is an artificial intelligence (AI) and machine learning (ML) approach to fund management.
By DK Aggarwal
With the advancement of technology, automation is taking over the world, and money management may be no exception. Many believe unbiased stock picking by machines is the future of investment. Few fund houses have experimented with quant funds, where algorithms pick the stocks. Or we can say, a quant fund is one in which the investment decision or the stock selection is done according to certain predefined rules based on a statistical or mathematical model.

Essentially, it is an artificial intelligence (AI) and machine learning (ML) approach to fund management. As these types of fund work entirely on the output thrown up by the model, its success rides on the nuts and bolts it is made of.


So it may not respond well in case of Black Swan events like the coronavirus-led crash or sentiment-driven rallies. Understanding the process behind rule-based investing and mapping the track records of the fund would be the right approach to selecting a quant fund.

One should never invest in quant fund just because the back-test looks good; back-testing results should be taken with a pinch of salt. This means elimination of human bias doesn’t automatically guarantee that a fund will be a top performer. There is no attempt to understand the nature of the business or a company here. Since a quant fund follows a somewhat passive strategy, expenses are lower here than active funds. Many a time, investors have burnt their fingers chasing such fictitious returns in various products.

Investors with a certain level of sophistication in evaluating and understanding statistical significance should only invest in this type of funds. Moreover, quant funds may be more suited for long-term investors, as it may take time for such strategies to play out to their full potential. Hence investors who want to ride on momentum or book profits regularly may need to keep away from this product before we see more proliferation of quant funds with visible proof of outperformance.

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There’s no easy way to earn high returns in the stock market, whether you are a human or an automated program. All one needs is a good understanding of the market.

DK Aggarwal is Chairman and MD, SMC Investments and Advisors.
(Disclaimer: The opinions expressed in this column are that of the writer. The facts and opinions expressed here do not reflect the views of www.economictimes.com.)
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