Naive question: fundamental vs. quant

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Random_Walk

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A naive question for the experts. Why don't fundamental equity analysts deploy more systematic strategies? After all, there's a lot of data out there, statistical tools and talent are there, and computations are fast. Fundamental analysts are aware of rich datasets that aren't traditionally used in empirical finance research.

Also, for the quants out there, what's cutting edge in low frequency systematic strategies? Seems like everyone is using the same data, same fundamental factors, similar statistical techniques, etc.
 
there are lots of systematic fundamental strategies. everything from DFA funds to wisdomtree to James O'Shaugnessy etc etc.
 
Are you asking why fundamental analysts aren't quants? That's like asking how many puppies it would take to lick you to death.
 
it seems as though quants all use the same financial data - compustat, ibes, datastream, etc. Little emphasis is placed on identifying new data sets...

Fundamental analysts, by virtue of their deep industry knowledge, are aware of industry-oriented data that could be used to construct systematic strategies. but they don't have the inclination to use such data to conduct systematic strategies.

If you're a serious chess player, you use quantitative tools to analyze a multitude of positions. Twenty years ago, this was not prevalent. If you're a radiologist, makes sense for you to use computer-assisted asistance to improve the accuracy of your diagnosis. Fundamental analysts could add value by just applying more quantitative tools, no?



Edited 1 time(s). Last edit at Thursday, June 28, 2007 at 06:52PM by Random_Walk.
 
C'mon. Every dataset in the world that might be useful and is available is used. Do you have some suggestions for data that might be useful? If so, do the work, find a trading strategy, convince me, and I guarantee I'll get you in to see at least two hedge fund owners who would consider trading capital in such a program (I'm hard to convince, however).
 
randomwalk, you should really look into James O'Shaugnessy, DFA funds, etc. They, and many others, are doing exactly what you are asking about and have been for years.

formulaic value investing is a bit of a crutch in my view, however some practitioners have had a lot of success with it. value line is another one.

just one example of a screen that some value investors use is companies with net cash that is greater than the market cap. from there, the investor checks to see what the cash burn and business model is.

lots of value investors have a handful of screens that they run every few months trolling for new ideas: the new 52 week low list, most shorted stocks, korean stocks with p/e's < 5, stocks with low price to book value and increasing ROE, and don't forget Greenblatt's "magic formula." there are just a tons of these being used daily.
 
thanks for answering my questions, lig. this is very helpful, and I will definitely look into these specific funds.

I'm being very serious here. For years economists overlooked ideas from psychology, as economists are typically academic imperialists. It's very hard to do good interdisciplinary work. Unless you're Apple, getting a designer to work with an engineer is very hard. I definitely am aware of data that fundamental analysts use that could be implemented in a systematic strategy context. But is this because it's hard to do interdisciplinary stuff, or is such a general approach doomed to fail because sectoral data lack breadth.
 
I think hedge funds everywhere are doing the most innovative things anybody can think of. Economists "overlooked" psychology (not really) because they didn't make money tapping into someone else's field.
 
Imho, people who pursue investments tend to think logically. Unfortunately, this sometimes traps them into limiting their process to what can be proven. Thus, the inclination for narrow academic fields and investors who retreat to the comfort and warmth of systematic investing. Not to say formulaic investing never works.

However, the world does seem to be coming around to a more multidisciplinary view. This is evidenced by the increasing number of multidisciplinary institutes at schools around the country. Buffett's partner Charlie Munger is a big proponent of this, and frequently comments how investors need to know the basics of psychology, physics, math, evolution, etc. He thinks it's criminal the way academics stay within their own circles and use excessively jargonistic language to make their work inaccessible to anyone but their academic peers.

Munger's book "Poor Charlie's Alamanac" is def worth a read.

Imho, systematic approaches get arbitraged away over time. Sure, there are some very good exceptions, but in general one needs to bring creative thinking to the process to create differentiated results.
 
So, to paraphrase RandomWalk: "well, why don't you guys use something else? Now, I have no fscking clue what methods you guys use but obviously you need to use something else to be more successful".

I feel like saying, with George Costanza: "... but, suddenly, a NEW CONTENDER HAS EMERGED"



Edited 1 time(s). Last edit at Thursday, June 28, 2007 at 09:50PM by FourCastles.
 
it's not the strategy so much that matters.... there are tons of good ones out there.... it's the trader's / investor's ability to adhere to one....
 
I think there's also another angle to this:

You ask "Why don't fundamental equity analysts deploy more systematic strategies?"

Well, finding a fundamental anaylst with the accounting skills, the industry knowledge, the communication skills AND NOW the statistical / mathmatical skills would be very tough.

But say the investment house achieved that. Then you would have an investment process where each sector analyst ran their own particular systematic strategy alongside their fundmental analysis. That'd be pretty confusing, no? You wouldn't win much new business with an investment process like that.

I can't imagine the investment consultants approving an investment process where one analyst is running a systematic strategy based on Price/NAV, the other based on FCF generation, or whatever.

Of course you could create a chief investment officer to oversee these analysts and ensure a common systematic strategy - in which case why bother with the individual fundamental analysts in the first place? Why not just have the one dude running this common systematic approach and let the fundamental analysts get on with being fundamental analysts?
 
It took me a long time to figure out why fundamental is different than quant. After all, how can you be nonquantitative about understanding balance sheets and stuff.

I think the big issue is that fundamental analysis has a space for qualitative assessment of business strategies and management capabilities. In theory, you could try to build quantitative indicators of this, but in reality, the applicability of the strategies is highly dependent on the structure and logic of specific industries. Therefore the data gathering, standardizing, and cleaning requirements of the qualitative aspects of fundamental research are so enormous, that you would either be asking fundamental analysts to cover 100 to 1000x as many companies as they currently do, or you would be asking quantitative analysts to reduce the qualitative observations to one or two crude variables. I believe the latter solution is being practiced to a certain extent, though I can't cite any specific examples.

Quant usually tries to leverage the law of large numbers to filter out the effect of qualitative factors. You may lose precision and make only $0.10 per bet instead of $10 per bet, but it's ok to make only $0.10 per trade as long as you're making millions of trades.

A nice way to try to combine quant and fundamental is to use quantitative screens to rank securities and then follow up with fundamental analysis. I know this technique done frequently, and my guess is the major challenge is that analysts in this structure need to change and initiate coverage of firms fairly frequently, which must keep them awake at night.
 
Random_Walk Wrote:
-------------------------------------------------------
> A naive question for the experts. Why don't
> fundamental equity analysts deploy more systematic
> strategies? After all, there's a lot of data out
> there, statistical tools and talent are there, and
> computations are fast. Fundamental analysts are
> aware of rich datasets that aren't traditionally
> used in empirical finance research.
>
> Also, for the quants out there, what's cutting
> edge in low frequency systematic strategies? Seems
> like everyone is using the same data, same
> fundamental factors, similar statistical
> techniques, etc.

This did come up my CFA II readings. The quants may work, if there is data available to them. That implies efficient markets.

For inefficient markets, that would be hard to do. Also, numbers don't tell the whole story; they just represent market sentiment. Don't forget Mr. Market, Warren Buffet & other value investors' nemesis.
 
JoeyDVivre Wrote:
-------------------------------------------------------
> C'mon. Every dataset in the world that might be
> useful and is available is used. Do you have some
> suggestions for data that might be useful? If so,
> do the work, find a trading strategy, convince me,
> and I guarantee I'll get you in to see at least
> two hedge fund owners who would consider trading
> capital in such a program (I'm hard to convince,
> however).


ok joey... i'll bite. I've been running a small cap systematic fundamental strategy (long only) for over four years with a minimal amount of capital (its up to $300K currently). i'm looking for a partner to take this on an institutional level, i.e. someone with infrastructure, marketing, compliance etc. Returns have been great: out of the last 17 quarters, i've underperformed only three times, avg annual performance is 30% vs. R2 of 23% with a tracking error of 6% (giving me an info ratio of 1.1). Given the small capacity constraints in the industry, i.e. most small products are closed due to size, i would think it would be a good opportunity to introduce a product with a solid track record.

Question: is there hope of attracting interest from someone?
 
I don't know. Questions that need to be asked:

1) The last 17 quarters is starting in 2003, yes? This has been a good period for the stock market so lots of strategies that simply took on lots of equity risk made money. You have to have a compelling reason why you are not outperforming because the market went up.

2) Is it scalable? $300K is not much money. $30M isn't even all that much money. I have tons and tons of $300K games that make good money.

3) How solid are these returns? Do you have good financial statements (obviously nothing audited right?) that can back up your claims?

4) Is the story good? A story that just says "I thought [blah] would do really well because the world really needed a better [some obscure microchip]" just doesn't do it. Now a story that says you have done some sophisticated modelling based on such and such research and have busted your butt to get good data and you can make it better if you can find a home and some help really works.

If you want to try it out on me, send me a presentation. I promise not to disclose or use your strategy.
 
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