GuitarXM wrote:Looks like they use quantitative trading. What I don't understand is, how is it that trading costs don't kill their performance?
How can trading be profitable since 1988?
Trading costs do eat into their performance. It's just high enough that they're profitable after those costs. Like all not-terrible quant shops, they model trading frictions and impact, and spend time trying to figure out more efficient ways to transact.
GuitarXM wrote:Their way of investing goes against all advice of the buy and hold investor?
Buy-and-hold is the way to get the underlying asset performance (minus fees/costs/taxes), nothing more. It's better than alternatives if you don't have a way to transact to add performance that survives the additional costs. In some sense random actions can't be expected to contribute any positive alpha on average before costs, and after costs it's negative. So you need some kind of edge, which they've quite apparently had.
GuitarXM wrote:I'm guessing they somehow use leverage to get that kind of return but whats crazy is that they pretty much had no down year since 1988. How can that be?
Yes, leverage. As for the performance, I'd look at it from two different angles. First of all, simply, if your mean return is really high, then a bad year (let's say, 10 percentile) may still be positive.
Secondly, you have to consider what kind of trades they're making and what they're investing in, at least at a high level. Generally, many asset classes make money in most (over half) of years but not in a lot of them. All the academic factors (size, value, momentum, quality, you name it) are losers in a lot of years too, similarly. My point is that these things are not consistent on a year-to-year basis. But they're not doing that, instead doing a range of trades from extremely short term (split second) to maybe some seasons, as reported. They do a lot of different strategies and hold all kinds of positions in a given year.
Also keep in mind they're trading in a lot of things other than just stocks. Their more public, higher capacity strategies using equities have performed a lot worse than Medallion.
Having more positions, if they all aren't correlated, can help with consistency. Imagine that you get to flip a coin a hundred times a year, where you make $1 on heads and lose $0.80 on tails. You're going to make money most years, but there will be some losing years where you end up with 56+ tails. Now imagine instead if you get a thousand flips a year of a payout of $0.10 on heads and lose $0.08 on tails. You're now virtually guaranteed to win in a year in net.
You just have to find the right trades that are actually favorable, perhaps some virtually guaranteed to work and maybe others likely to but still worth a shot. They aren't exactly forthcoming on what they do, but presumably they've found a number of things.
The best high-frequency traders make so many moves, many likely to be profitable, that they're pretty much always making money.
GuitarXM wrote:Not to mention that quant trading looks at past data similar to technical analysis to predict the future?
Hasn't it been proven time and time again that stock price can't be predicted based on past price data?
It seems that this fund has some secret up its sleeve.
First of all, a lot of quant trading looks at plenty more than just price (or performance), and of course so it goes for them as well. The Paris weather example clearly is not purely about price information with nothing more.
But it's not clear how widely you meant "stock price can't be predicted based on past price data." It is actually unquestionably true that past price movements tell you something about future price movements. For example, past recent volatility predicting future volatility far from perfectly but at a level way better than chance, assuming the average at all times. So you should ask if price movements tell you anything about the direction of future price movements. Historically, that's also been the case, very obviously so before costs. After costs, there's still some decent evidence across many different time periods, asset classes, and countries that price movements do contain some information about the future direction—not enough to be even remotely consistent, but right more often than wrong in a way that was enough to survive costs and make money in most years, even with pretty simple signals.
There's just obviously not some price signals that result in short-term (on the order of hours, days, weeks, etc.) profitability after trading costs in any way that's remotely consistent. Of course lots of people are looking for these kinds of things. So you're personally probably not going to find them: easy pickings have been picked clean, if they were ever there to begin with. Same for not-so-easy pickings.