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  • Tutorials What’s a Quant fund?

    What’s a Quant fund?

    To get clued on to the world of Quant funds, read on.
    Team Cafemutual Oct 7, 2010

    Quant funds are those funds that select stocks in their portfolio on the basis of quantitative analysis. In actively managed funds, buy and sell calls are taken by the fund manager. In contrast, a mathematical formula identifies buy and sell calls as set out in the fund’s objective in quant funds. Quant fund managers generally design these mathematical methods.

    Quant funds claim to have the following advantages:

    • Reduce human bias, error and emotion.
    • Restrict choice of stocks based on the model (algorithm).
    • Consistency in strategy
    • Additional asset allocation option for investors
    • Consistent and disciplined investment process, offering superior risk control.

    Quant funds have been around since the 1970s but have entered India recently only. In November 2007, the country’s first quant fund Religare AGILE Fund (Lotus India’s AGILE Fund) was launched. Other fund houses followed suit. In recent times, Reliance Mutual Fund has merged its Sensex/Nifty Index Fund and converted it into a quant fund called Reliance Quant Plus Fund.

    ICICI Prudential has Focused Equity Fund which follows a blend of quant and actively managed styles. Pramerica AMC is planning to launch a Quant Fund that will invest in securities based on a quantitative stock selection model.

    The Portfolio of a 'Quant Fund' is based on computer-based quantitative analysis working on a mathematical model, with no involvement of human judgement. Thus, there is no provision for any emotion or sentiment involved when buying/selling stocks in the Quant Portfolio. The quantitative analysis is undertaken using computer-based models either designed in house or outsourced by the fund.

    Quant funds are more popular among the private funds such as hedge funds rather than among public funds.

    In this volatile market, they claim that the quant fund strategy can be more effective as it

    • doesn't choose the fund on the basis of any emotional or sentimental issue
    • is fast in decision making and
    • is cost effective.

    Obviously, the decisions are correct only when the model is built properly and reflects the real world

    The concept of a Quant Fund didn't work when, in 1998, Long-Term Capital Management, a US hedge fund that bet on the predictions of its quantitative algorithm, suffered spectacular losses when its models failed to predict that the Russian government would default on its debt obligations. And that leads to the biggest criticism of quantitative models: their reliance on historical data and their inability to take into account new events.

    A quant fund is halfway between two kinds of equity funds, actively-managed equity funds and index funds. In case of actively managed funds, a fund manager is required to manage it and in an index fund no fund manager is required because the portfolio of the fund is a replica of the benchmark on which the fund is based. Quant funds are halfway between the two because they are managed by a mathematical model which has been developed by a fund manager.

    They purport to utilize the best minds in the business and the fastest computers to both exploit inefficiencies and use leverage to make market bets. They can be very successful if the model has included all the right inputs and is nimble enough to predict abnormal markets events. On the flip side, while quant funds are rigorously back tested until they work, their weakness is that they rely on historical data for their success.

    While quant-style investing has its place in the market, it is important to be aware of its shortcomings and risks. To be consistent with diversification strategies, it's a good idea to treat quant strategies as an investing style and combine it with traditional strategies to achieve proper diversification.

    Our take: Recommend Quant funds with a tested track record in small doses only to investors with a high risk appetite.

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    Have a query or a doubt?
    Need a clarification or more information on an issue?
    Cafemutual welcomes all mutual fund and insurance related questions. So write in to us at newsdesk@cafemutual.com

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