GLOBAL - Approximately US$6.65trn (€4.27trn) or one-eighth of all global assets under management (AuM) were driven by quantitative analysis  in 2007, and that figure will grow to 14% or $10.86trn by 2010, financial services research house Aite Group has predicted.

Sang Lee, managing partner at Aite Group, conducted analysis of the entire investment market for a report, entitled The World According to Quants: From Alpha Discovery to Execution, and noted while it is difficult to assess exactly how much investment business is conducted using quants analysis, figures indicate the approximate figure was 12% of all AuM last year ,but this will continue to climb with the opening of competition and technology development, use of cross asset class funds and with the widening use of quants for data crunching by traditional fund management houses.

Further discussions with the market also indicate there are approximately 25-30 true quant hedge funds globally and they accounted for over 5% of the global hedge fund AuM, or $98.8bn, in 2007 but this will grow to more than $160bn by the end of 2010, suggested Lee in his report.

Quants strategies came under heavy scrutiny during the early credit crunch of August 2007, as hedge funds, in particular, applying quantitative analysis found they were forced to sell assets to contain their losses, even where they had no exposure to the subprime sector - the factor triggering initial losses in the credit and equity markets - because the markets "began behaving completely at odds with what many quants' computer models had predicted", said Lee in his report.

Aite Group said while the market is expected to continue to grow and "the application of quantitative analysis is definitely here to stay", the firm warns there is also a shortage of highly knowledgeable staff and this generates the subsequent ‘copycats' growth of similar quants strategies when staff move around, which makes it difficult for firms to maintain the competitive advantage over rivals and avoid significant correlation and similar responses between other firms' portfolios and parameters.

"It is inevitable that when the pool or talent is limited in a given market, employee poaching will occur amongst competitors, and talented quants will leave to start their own shops. As quants continually swap employers or start new funds utilizing the knowledge they have honed for many years, it is almost natural that some of the funds will end up using similar models, setting similar parameters, constructing similar portfolios, and going after a selection of similar instruments," said Aite.

"This can lead to diminishing investment opportunities for all involved, and the potential of magnifying losses if sudden change in market conditions nor foreseen by the quant model occurs, triggering similar responses from various quant funds," continued the report.

This is perhaps especially important in light of the speed with which markets showed themselves to move downwards last autumn, acknowledged Lee in his study.

But there is some positive news on the horizon as continuing improvements to technology make it possible to employ quants strategies to improve data mining and seek out potential market inefficiencies as "increasingly, higher returns depends on relatively new and/or still emerging technology" and "for trading, faster is not only better, it is the difference between winning and losing", suggested the report.

Faster processes appears to be increasingly important in quants strategies as the typical workflow of the alpha discovery process - from data acquisition and preparation to alpha production - can take anything from between 10 to 28 weeks, said the research house.

Data compiled by OPRA and Aite also suggests the OPRA messaging volume of potential investment options will increase significantly from around 450,000 in 2007 to 1,000,000 messages per second in 2008.

Lee suggested in his report the role of quants is evolving as "quants are taking on the role of traders as well as the role of portfolio managers" but "the demand for quants and their quantitatively-driven alpha strategies will persist as the current march towards cross-asset class trading continues to increase and the frequency of trading narrows even more".

If you have any comments you would like to add to this or any other story, contact Julie Henderson on + 44 (0)20 7261 4602 or email julie.henderson@ipe.com

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