Quant investing is becoming more widely accepted. But such developments are always accompanied by growing pains. We talked to Pim van Vliet, head of Conservative Equities, about the opportunities and pitfalls and why culture and philosophy are so important.
“I think we can safely say that quant investing is now on the brink of adulthood. In addition to active funds, consultants are also starting to rate quant products. But there is still a lot of naivety about. The current enthusiasm for quantitative factor investing could evaporate overnight if something goes wrong. These are signs that the market is not yet fully mature. There are, for example, quant products still being sold on the basis of the flimsiest backtests, while investors forget that there is a big difference between ‘paper performance’ and real ‘dollar performance’.”
“If the people who offer quant products and those who buy them are not sufficiently critical, problems can arise. Every asset management company that wants to grow is now betting on quant. But there is more to it than just recruiting a couple of rocket scientists and putting a backtest in the market. A real-life track record and a solid reputation will become increasingly important in the years to come as the demand for quant products increases and the market grows.”
“It’s crucial. In the future, people will focus more and more on the culture and philosophy that characterize the asset manager. The philosophy behind the strategies – pursued by the people behind the models – is what makes the difference. Of course every quant-driven product has an appealing backtest, but without the right culture, paper profits remain just that. Our quantitative investment philosophy is supported by three pillars: a strategy is evidence-based, prudent and based on economic principles. The first is pretty obvious, and even though our database goes back 90 years, which is further than most, it’s the second and third pillars that set us apart from the rest.”
“The biggest risk for quants is data mining – overfitting models as a result of limited data. In our experience the most ‘fitted’ and complex models often have the worst performance in practice. Implementation and execution are hugely important. Every asset manager or index provider can knock up a factor product. But those parties that lead the field in quant, have more experienced people who have already been through different cycles, including challenging years like 1999, 2007 and 2009.”
“Now the market is growing quickly there’s a lot of chaff amongst the wheat. It is more important for clients to be able to assess the differences between various parties. This is why it is a good thing that independent consultants now also look at quant seriously. Investors must maintain a healthy dose of skepticism and not let themselves be dazzled by a good story. In order to evaluate a product (and its seller) on its merits, you need to look at their performance over a complete cycle. Now there are only a few quant funds that have a ten-year track record. And almost all the smart beta indices are even more recent and therefore not fully proven.”
“Quant is not a machine that you plug data into and where returns come rolling out if you turn the handle. It is a ‘people thing’. You won’t achieve success by simply attractively packaging an algorithm and selling that. Robeco's quantitative factor investing is closer to fundamental investing than people tend to think. Yes, we are highly systematic in our work, but at the same time we also try to incorporate the strengths of fundamental investing: know your portfolio, keep it simple, put yourself in the client's shoes, don't trade too much.”
‘Quant is not a machine you plug data into and where returns come rolling out’
“There is an increasing awareness that, as is also the case with fundamental funds, there is a great deal of diversity in quant. There are CTAs and high-frequency quant funds, but also defensive products with low turnover. The Conservative Equities range is our quant label, but the philosophy and turnover of these funds are more similar to, for example, other Robeco equity funds, than the products offered by other quant investors.”
“Conservative Equities is all about stable returns and a high dividend. That is clear enough for many investors; we don't need to get into the mechanics of it. They can include this strategy as an alternative to a high-dividend fund. One important distinction between us and other income products is the proven reduction in the level of risk. This strategy also enables you to achieve a more stable coverage ratio, and is also an appropriate addition to a life-cycle mix. In traditional life-cycle funds you start off with a high weight in equities that is gradually reduced over time in favor of bonds. Conservative Equities enables you to maintain a position in equities for longer.”
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