Wall Street's Biggest Institutions Are Testing Software That Will End The Era Of The Quants

Right now, some of Wall Street's biggest institutions are testing a new technology that promises to change the way analysts model the markets, in the process eroding a massive competitive advantage possessed by perhaps only 10 of the industry's largest, most powerful hedge funds.

Powerhouse investment banks like Goldman Sachs and Morgan Stanley – along with titans of the fund management industry like Fidelity and Blackrock – are turning to the cloud to unlock powerful supercomputing capacity that will end their reliance on Microsoft Excel and give them the tools to compete with the "quants" that have taken over the business in the last decade.

The company making all of this possible is Kensho Finance.

"At a lot of these different financial institutions try to do financial analysis and financial modeling using Excel, which is fundamentally a piece of accounting software," says Kensho CEO Daniel Nadler. "They don't really have the kind of sophisticated market modeling and computing environments that they do at a lot of elite hedge funds."

According to Nadler, only 7 to 10 of the top quantitative funds on the Street – names like Bridgewater Associates and Renaissance Technologies – possess the technology that Kensho hopes to bring to the masses.

The reason so few funds possess this capability is that without access to cloud computing, these hedge funds have to pour millions of dollars into fixed computing infrastructure in order to run the kind of sophisticated financial modeling that gives the quants their trading edge.

Meanwhile, the rest of the industry – even hedge funds running billions of dollars in assets but not counted among the utmost elite – are still relying on Excel.

The idea behind Kensho is that by providing financial modeling and analysis software that resides in the cloud, an analyst or investor can tap into the cutting-edge supercomputing capabilities possessed by the quants at a cost so low that its use will become widespread among even retail investors.

Kensho's flagship product is called Robotrage, which, according to Nadler, is "the true thing that is replacing Excel."

"Bridgewater can literally just say, 'Here's every event that happens in the world.' Earnings, economic indicators, seasonality, cyclicality, political events, and so on," says Nadler. "And they can literally model every single stock in the AMEX and the NYSE in relation to every single event, and can gain that kind of precision around it, which obviously helps them in terms of making their investments."

With Robotrage, an investor or analyst can simultaneously model the reaction of thousands of tickers – stocks, currencies, and commodities – to events that happened on dates of his or her choosing, much like the quants at Bridgewater are doing.

"You literally press a button, say 'run the study,' and then [Robotrage] uses cloud computing capacity – it allocates to you that capacity – and it runs the study for you," Nadler says. "Some of these are extremely intensive studies, but they take five minutes as opposed to taking 15 analysts at Morgan Stanley who make six figures four weeks to do – which is the current state of the art."

Robotrage is currently getting a lot of interest from sell-side analysts at big investment banks and buy-side analysts at big asset managers alike – those that know the right questions to ask and can use the software to answer those questions quickly and efficiently.

The next step for Kensho Finance, says Nadler, is a program that will use machine learning to not only provide answers to questions, but also determine which questions to ask in the first place.

He describes it like this: "The next step is literally a financial analyst on Wall Street – or for that matter a retail investor – will turn on their computer in the morning, and they are going to have an intelligent assistant in that computer that says, 'Good morning Matt. It's 9:35 in New York City. You may or may not know that the jobs report just came out this morning at 8:30, and there was a big downside surprise. We lost 35,000 jobs more than the consensus. You should expect these 15 stocks to be most directly affected by this over the course of the day.'"

Nadler hopes this vision can become reality in the next two or three years.

In the meantime, though, retail investors can still benefit from the technologies Kensho Finance currently has in development.

One such tool is called Seasonal Odds. The software provides investors with statistics on seasonality of historical returns for any given ticker symbol.

Seasonal Odds was inspired by all of the "Sell in May and go away" articles you see in the financial press around that time of year.

"If you're lucky, [these articles] tell you what happens to the S&P 500. They never mention which stocks outperform, or underperform, let alone provide a resource for looking up the stocks that you actually hold," says Nadler.

Kensho Finance wanted to make that information freely available, so the company launched SeasonalOdds.com.

"That itself caused a lot of angry phone calls from hedge funds, because you would be surprised how many hedge funds who actually have this information, because they have statistical computing capability, trade off of this," says Nadler. "There are major, major blue chip companies like Hewlett Packard, Procter & Gamble, Wal-Mart that in some months are positive more than two-thirds of the time over sample sizes of 30 years, and in some months are negative more than two-thirds of the time. Those are serious pricing anomalies and pricing inefficiencies that are very persistent and durable."

With Robotrage, Kensho Finance hopes to bring that information – along with the computing capability to uncover it – to the masses.

"Our belief is that people should be entitled to outperform the market," says Nadler, "but people should not outperform the market because they can buy a technology that no one else has."