Live from QuantMinds International, our experts during the Quant Invest summit have been discussing active vs. passive vs. smart beta strategies. From defining what these strategies are to discussing how to maximise their potential, the insight shed some light into investing in today's markets.
Active versus Passive - Who wins?
The first hurdle when embarking on a conversation about the merits of active versus passive is deciding how to actually define either one.
Certainly the panel at QuantMinds International 2018 in Lisbon couldn’t agree.
Moderator Artur Sepp, Director and Senior Quant at Julius Baer Group, said it was all a question of risk: “I think a passive investor will always follow the market, with active you try to limit the risk.”
But Michael Steliaros, Global Head of Quantitative Execution Services at Goldman Sachs, disagreed in part, arguing that passive also had a risk element.
“Tracking error is the main thing by which passive strategies are assessed, and that is risk,” he said.
There are various approaches to building a passive strategy. The main difference is the ease of access to the product and the fact that fees cannot be charged for something that is deemed to be a passive investment, he added.
Philip Stoltzfus, CEO at Thayer Brook Partners LLP, works primarily in managed futures, where, because of the absence of benchmarks, it is even harder to define passive management.
“In the managed futures space a passive method is one that focuses on a static rule set, which doesn’t mean that it totally lacks a dynamic element, but it’s essentially trying to tap into a pure underlying performance driver.
“In active there are methods employed to try and compensate for elements of trend-following that don’t work well, such as a higher focus on risk management.”
Simon Weinberger, Managing Director, Scientific Active Equities at BlackRock, contemplated the question from an investment decision perspective: “In the equity space almost everything requires an active decision. Smart beta is a poor name. When it comes to smart beta, to me you are firmly in active territory. You decide to deviate from a benchmark quite significantly. I think maybe risk premia is a better term.”
Simon Weinberger discusses how to differentiate yourself from smart beta when using active quant strategies
The impact of quantitative models
So the panel agreed to disagree, moving on to the topic of what impact models had on their day-to-day business.
“We are seeing assets flow both to passive methods and also to cheaper trend-following strategies,” said Stoltzfus.
But he felt that active managers needn’t worry just yet.
“There still is enormous scope to use research to develop new methods that will provide benefits, such as better risk management and better drawdown control. Those active managers will be judged based on their ability to deliver something that is genuinely differentiated from the pure trend-following component.”
Steliaros argued that there was a blurring of lines between active and passive anyway.
“Systematic quantitative processes can be applied across the spectrum. We have seen a significant increase in the last few years in the fundamental, active stockpicker-type client who are using a lot of systematic risk management tools.”
Skills for the future
By some estimates, 90% of the world’s data was created in the last couple of years. Going forward, the industry needs new techniques to extract information from all that data.
Not only that, but quants now require a whole new skillset.
“The fact of superior technical computing skills is taken for granted,” argued Stelarios. “The thing that we do look for now is the opposite, the qualitative side – communication skills and financial and commercial acumen.
Simon added that the quant space was also now very much about continued learning: “It’s a mistake to think you know everything after your degree. The best thing to do is to work in a multidisciplinary team, that’s what helps everyone learn.”
All these considerations still don’t settle the argument about who is going to win the argument between active and passive.
“No one and everyone,” stated Steliaros.
“Most of these things come in cycles, coming out of 2008 Quant was a dirty word. In 2016 it was the best thing ever. It is not unreasonable to think that in three to five years time the situation will be reversed.
“The future will be a multi-strategy approach that has to have systematic aspects. You still need a qualitative approach - a model can’t tell you what to do after Trump becomes president or what day one after Brexit will look like.”
A level playing field of investment solutions
An equally hot topic, according to Alexandru Agachi, Co-Founder & COO at Empiric Capital, was whether alternative Beta and quant ETFs could capture hedge fund performance.
Having studied realms of research on the topic, he argued that capturing the way hedge funds achieved alpha was next to impossible, and replicating it was very hard.
“The comparison between smart beta products and hedge funds is so difficult and unreliable as to be almost meaningless. Not only is it difficult, it’s a futile exercise – trying to replicate a hedge fund is something you would never want to do anyway,” he argued.
Agachi believes that the playing field will level out in the future.
“For smart beta ETFs there is a lot of implementation in progress at the moment on how to increase the factor efficiency ratios and on how to capture the intended factor exposure more meaningfully and more fully.
Michael Steliaros, Global Head of Quantiative Execution Services at Goldman Sachs, discusses how to make beta strategies successful.
“And hedge funds themselves have been cannibalizing themselves way before smart beta became a big thing.
“I think in the future portfolio managers will look at all solutions, be they smart beta, not so smart beta, hedge funds, other type of funds and choose based on their own needs.
“All investment solutions will be put on the same line and people will pick among them.”