February 3, 2014

The Big Data Edge for Hedge Funds

The term "big data" has been around for some time, but questions remain exactly how hedge funds and other buysiders exploit the vast stores of data that has never been available to them in the past, which continue to grow each day.

By Renee Caruthers

TRADERS: What are you hearing about your clients' use of big data? Is this marketing hot air, or is Big Data an established resource they're actively exploiting in their day-to-day trading?

IRENE ALDRIDGE: Oh, yes, absolutely. I think there are three major trends when it comes to big data. The first remains just information gathering. There's a ton of information that is generated by everyone, and basically everything is now tradable. There's tradable news; there is information provided by Bloomberg, Reuters and Dow Jones; and there are news feeds. There's also the Internet, which is like a data mine of information-there's unlimited numbers of stuff.

The number one trend is really to synthesize and gain an edge by having some custom understanding of how the news is incorporated into the market and being the first to synthesize the news from the global universe of news.

TRADERS: What is the second trend?

ALDRIDGE: Trend number two is more traditional. It's really how you gain alpha. It's more of the high-frequency trading, and high-frequency trading portfolio management is "how do you respond to new market developments in a very fast time and so intra-day definitely?"

TRADERS: What's the third trend?

ALDRIDGE: The third trend is really optimal execution in a sense that many buyside clients are now questioning whether they need a broker or whether they should rely on the broker as much as they did before. The reason for this is, they can hire very talented personnel who can develop quantitative models that are, frankly, superior to models many of the brokers have.

It used to be that brokers had an oligopoly, essentially, where they would control the access to the markets, and they didn't really need superior technology to compete, because all they needed to do was just stay on par with the other guys. So there was always a look left, look left and look right and see what everybody else is doing, so they would have to have the same thing at least that everybody else is having, and that was sufficient.

TRADERS: Are your buyside clients moving away from the broker model?

ALDRIDGE: The clients that I'm dealing with will often say, "Well, it's not good for us because it doesn't give us enough edge." So they're developing in-house what are essentially optimal execution models, where if they need to run through a billion-dollar transaction, they're not going to give a block to the broker anymore. They're going to break it up into 100-share little pieces or 200-share pieces and give it to all of their seven brokers that they have relationships with in such a way that not one broker can reconstruct what they're doing.

I used to work for the sellside, and often what happens on the sellside is, at least in our case, the broker would receive a block trade from some firm, and they would immediately start calling all their clients trying to generate business and saying, "OK, this guy's buying this, so you must be buying that too, because these guys always know what they're doing and they're buying, so, therefore, you all have to do that." And it dilutes the profitability of the original person who gave the block trade.