Can Quantitative Analysis Hone a Discretionary Manager’s Edge?

What is a quant? Wikipedia definition: A quantitative analyst or, in financial jargon, a quant is a person who specializes in the application of mathematical and statistical methods – such as numerical or quantitative techniques – to financial and risk management problems. Amongst traders, “quant” may conjure an image of a nerdy programmer, but we may all employ quantitative analysis in our daily routines. (simple example- if freight train crossing, take longer distance route to save time). To get some perspective, Ryan Griffeth contacted Bernie Kane, who this year joined Ron Anderson as co-manager of County Cork’s discretionary Soybean Crush Spread strategy. RG: How does quantitative analysis differ from fundamental analysis BK: Fundamental analysis seeks to identify supply / demand imbalances. These imbalances can be at the consumption or user level or they can be at the producer level. If a product requires processing, the middle man can also experience supply and demand imbalances. Quantitative analysis tries to put those imbalances in a numerical perspective. Quants can compare deviations in relationships to price impact. These relationships can identify price levels where these imbalances have achieved their maximum marginal impact. From here further prices moves can affect the risk / return curve for being long or short that instrument or spread. As such, they have the potential to confirm or question the fundamentalist’s view on supply / demand imbalances. RG: How does quantitative analysis compliment your fundamental analysis? BK: Given a fundamental view, we can look at price relationships to determine what may be the most cost effective way to express that opinion. For example, if we are bearish soybean meal, we could express that as a function of direction using option spreads, calendar spreads, intra-product spreads, crush positions, crush spreads, etc. Quantitative analysis can identify which positions could have the best correlation to a prices move. It can identify when it would be advisable to transfer that position from an intra-product spread to a calendar spread, etc. It can also serve to identify when the magnitude of the move alters the risk / return structure of a trade. Example- Regression analysis highlights price above value- and can signal a trade getting closer to limit of return. One example of using a quantitative view is looking at Minneapolis Spring Wheat. Identifying the potential for an extremely poor harvest because of drought conditions, we analyzed a variety of factors as the price rallied. We regressed outright price moves against calendar spreads, inter-product spreads, option volatility, etc. We found that expressing a calendar spread became riskier than expressing an outright position or an inter-product positon. We then noticed that the relationship had a ceiling relative to its nearest competitor, Hard Red Winter Wheat. Although there is a defined demand for protein, there is a level that Minneapolis could get to on a relative basis where the risk / return profile changed dramatically. RG: When Fundamental meets quant, is it happily ever after? BK: There is a constant interaction that needs to occur. Fundamental analysis can pick up future supply / demand imbalance concerns quickly. Quantitative complimentary analysis serves to improve the risk / return bets made using quantitative analysis. It is all about managing risk that puts the two methods of analysis together. Returns can have robustness but improved risk / return bets can allow for increased confidence by investors. Bernie Kane has been a successful trader and risk manager at a primary government securities dealer, money center bank, and global proprietary trading firm. Bernie allocated to RLA in his discretionary CTA fund for two years where he recognized Ron Anderson’s solid edge and foresaw synergies of their combined approach. NIBA is excited to host the “Quant Corner” at the upcoming September Conference at the CME Building on September 14th. NIBA members can meet with soon to be quants and program representatives from four top schools (DePaul, Northwestern, University of Chicago and Illinois Institute of Technology) who offer quantitative programs at the masters level and further discuss quantitative topics such as the compliment that quantitative analysis adds to traditional fundamental analysis, as discussed in this article.

Can Quantitative Analysis Hone a Discretionary Manager’s Edge?

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