{"id":19264,"date":"2016-11-18T16:50:56","date_gmt":"2016-11-18T21:50:56","guid":{"rendered":"https:\/\/digital.hbs.edu\/platform-rctom\/submission\/crowdsourcing-alpha-can-quantopian-re-invent-the-hedge-fund\/"},"modified":"2016-11-18T16:50:56","modified_gmt":"2016-11-18T21:50:56","slug":"crowdsourcing-alpha-can-quantopian-re-invent-the-hedge-fund","status":"publish","type":"hck-submission","link":"https:\/\/d3.harvard.edu\/platform-rctom\/submission\/crowdsourcing-alpha-can-quantopian-re-invent-the-hedge-fund\/","title":{"rendered":"Crowdsourcing Alpha: Can Quantopian Re-invent the Hedge Fund?"},"content":{"rendered":"

In late 2012, Boston-based entrepreneur John Fawcett published the \u201cQuantopian Manifesto<\/a>\u201d, a blog post that outlined the genesis of the company he had just co-founded.\u00a0 He wrote, \u201cWall Street’s culture was born in an age of information scarcity\u2026[but] the world has changed. The new scarcity is people: people with the talent and drive to wring insight from all of that data.\u201d[1]<\/a>\u00a0 With that vision in mind, the company soon released its first version of the Quantopian IDE: a cloud-based development environment that allowed anyone to build and test systematic investing strategies using the Python programming language.<\/p>\n

The goal was that by building a community of \u201cquants\u201d amongst the 30 million STEM-educated professionals around the world\u2014and providing a forum in which they could collaborate and improve upon each other\u2019s code\u2014Quantopian could identify latent investing talent that traditional investment firms might miss.\u00a0 The promise of the vision, team, and product has attracted $49M of VC investment from prominent firms, including a $25M Series C round led by Andreessen Horowitz and Point 72 (FKA SAC Capital) earlier this week.[2]<\/a><\/p>\n

\"quantopian\"<\/a>
Quantopian product screenshots<\/em><\/figcaption><\/figure>\n

The New Model for Systematic Investing<\/strong><\/p>\n

The firm iterated through several business models in its early years (i.e., monetizing on retail brokerage commissions, selling subscriptions for live trading, licensing the platform to other funds) before settling on its ultimate goal: becoming the world\u2019s first crowd-sourced hedge fund.[3]<\/a><\/p>\n

Quantopian operates in some ways like any other fund \u2013 it raises capital from institutional investors and manages it in exchange for management and performance fees (typically 2% and 20%, respectively).\u00a0 However, Quantopian doesn\u2019t hire any investing talent directly; instead, it analyses all of the algorithms created by its community, licenses the best ones, and rebates 10% of the overall net profit from each strategy back to the creator.[4]<\/a>\u00a0 Rather than recruiting at top pHD programs, the company attracts new programmers similar to other \u201cBusiness to Developer\u201d startups (e.g., GitHub, StackOverflow): through word of mouth, community building efforts and free education about systematic investing.<\/p>\n

Another key difference is in the technology stack.\u00a0 While Quantopian manages all the infrastructure required to execute trades (e.g., market data, order management and broker connectivity), it also has to build and maintain a developer-facing website.\u00a0 Thus, the company has built an engineering team with expertise in web development\u2014an expensive skill set not often found at the traditional hedge fund.<\/p>\n

Challenges ahead<\/strong><\/p>\n

Quantopian has executed well on its near-term goals, growing its community to 100K users (~110% CAGR since 2014) and attracting $250M in LP funding from Point 72 for the new hedge fund strategy[5]<\/a>.\u00a0 Despite the hype and the attention from the VC and hedge fund communities, the company\u00a0is still in its early days, and faces some key questions ahead:<\/p>\n

Will Quantopian be able to generate returns?<\/em><\/p>\n

Quantopian has committed to the philosophy of systematic investing\u2014however, these strategies have underperformed discretionary funds over the last several years (albeit with lower volatility).<\/p>\n

\"quantopian-2\"<\/a><\/p>\n

There may be an inherent flaw in Quantopian\u2019s model as well.\u00a0 Because the company doesn\u2019t look at the underlying code for each algorithm in its portfolio, they miss the opportunity to optimize at the position level.\u00a0 For instance, one strategy might go long Apple while the another goes short, but Quantopian can\u2019t net the two against each other. \u00a0Nonetheless, early results showed promise: in the first quarter of 2016, the Quantopian fund returned 1.93% net of fees, beating the S&P 500\u2019s 0.8% return.\u00a0 However, Fawcett stressed that the time horizon was too limited to get excited.[6]<\/a>\u00a0 In order to broaden its investor base beyond Point 72, Quantopian needs to develop a multi-year track record and prove that the crowdsourced model works as they increase AUM and leverage. \u00a0Amidst an environment that is increasingly skeptical of hedge funds and their fee structures, this will prove crucial.<\/p>\n

Is Quantopian\u2019s operating model sustainable?<\/em><\/p>\n

Quantopian\u2019s long-term success will depend on being able to sustain each side of the marketplace. On the investment side, it needs to properly incentivize quants to stick with the platform and continue submitting algos\u2014however, it stands to reason that the best performers may end up striking out on their own if given the chance to capture more of the ecomomics for themselves. \u00a0On the capital side, they need to attract enough assets to fund Quantopian\u2019s operating expenses, which to date has come from venture financing.\u00a0 Furthermore, the company must grapple with how to return capital to these VC investors, who traditionally rely on M&A or IPO exits for their investments\u2014these events are relatively rarer in the hedge fund space than in software \/ biotech.<\/p>\n

Win or lose, Quantopian\u2019s model has certainly shaken up the industry\u2014but only time will tell whether the \u201cwisdom of the crowds\u201d truly can beat the market in the future.<\/p>\n

(796 words)<\/p>\n

\n

[1]<\/a>\u00a0John Fawcett, “The Quantopian Manifesto,” Quantopian Blog, <\/em>September 10, 2012,\u00a0<\/em>https:\/\/blog.quantopian.com\/quantopian-manifesto\/, accessed November 2016<\/p>\n

[2]<\/a>\u00a0“Quantopian Raises $25 Milion in Series C Funding Round Led by Andreessen Horowitz,” Business Wire,\u00a0<\/em>November 14, 2016,\u00a0http:\/\/www.businesswire.com\/news\/home\/20161114005847\/en\/Quantopian-Raises-25-Million-Series-Funding-Led, accessed November 2016<\/p>\n

[3]<\/a>\u00a0“Quantopian Attracts $15M in Series B FUnding led by Bessemer Venture Partners.” PR Newswire,\u00a0<\/em>October 16, 2014,\u00a0http:\/\/www.prnewswire.com\/news-releases\/quantopian-attracts-15m-in-series-b-funding-led-by-bessemer-venture-partners-279399942.html, accessed November 2016<\/p>\n

[4]<\/a>\u00a0Quantopian, “Fund Overview,” https:\/\/www.quantopian.com\/fund, accessed November 2016<\/p>\n

[5]<\/a>\u00a0John Fawcett, “Quantopian to Manage up to $250M of Investment Capital,” Quantopian Blog,\u00a0<\/em>July 27, 2016,\u00a0https:\/\/blog.quantopian.com\/q-to-manage-up-to-250m-of-investment-capital\/,\u00a0accessed November 2016<\/p>\n

[6]<\/a>\u00a0Robin Wigglesworth, “Fund using Freelance Programmers Beats US Stock Market,” \u00a0Financial Times,<\/em>\u00a0April 5, 2016,\u00a0<\/em> https:\/\/www.ft.com\/content\/0808729a-faa6-11e5-b3f6-11d5706b613b,\u00a0<\/em>accessed November 2016<\/p>\n

Note: this post also draws from conversations with company management and Quantopian’s Series A Investment deck, May 2013.<\/em><\/p>\n

 <\/p>\n","protected":false},"excerpt":{"rendered":"

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