The reason the stock market has stayed relatively stable amid economic chaos: computer-driven trading
- Amid a chaotic few months in the US economy, the stock market has remained relatively stable.
- Quant funds, which use computer models to trade, are helping calm the markets, The Wall Street Journal reported.
Economic pandemonium has swept our financial systems for the last few months: We entered the year with stubborn inflation; the March collapse of Silicon Valley Bank spurred fear for investors, business owners, and bankers alike; and recent discussions on breaching the debt ceiling have caused uncertainty about the future of Social Security or potential job loss, among other scares.
Yet still, the stock market has remained somewhat calm.
In fact, the S&P is up nearly 10% year to date, as of May 29. Meanwhile, the VIX, also known as the volatility index, has remained below 20 — a level that suggests a relatively stable market — every trading day but two since March 28.
That stability is at least in part thanks to quant funds, according to The Wall Street Journal. Quant funds, or quantitative hedge funds, are investment funds that use computer-created algorithms, mathematical models, and artificial intelligence to make stock predictions.
While some investors have stepped back from equity markets due to high valuations and an uncertain course of the US economy, quant funds have been "doubling down," The Journal reported.
"We have seen them sort of balance each other out for the last six or seven weeks now," Parag Thatte, a strategist at Deutsche Bank, told The Journal.
While the quants may have helped stabilize the market in recent weeks, they can also be prone to reacting in unison when volatility does hit, The Journal added.
Quant funds can use computer programs, AI, and more to make decisions
The strong performance of quant funds in 2022 put them back in the spotlight, The Journal reported.
Quant models come in a variety of forms. They can be based on ratios like price-to-earnings, debt-to-equity, and earnings growth, according to Investopedia. They can also incorporate AI into their decision making.
Some have proven very successful. One of the largest US-based quant funds is D.E. Shaw, which saw its largest hedge fund gain 24.7% last year after fees, outperforming industry averages, according to Reuters. Similarly, the quant fund Renaissance Technologies saw annualized returns of 66% for 30 years, from 1988 to 2018, Insider previously reported.
The recent success of quants comes at a time when many are considering the impacts of AI on a wide range of industries. Many investors agreed that AI would be a "game changer" for financial services, according to a 2023 survey by Morgan Stanley. But it will likely not replace humans entirely.
Even if trading does become more reliant on algorithms and AI, many investors still might prefer a human managing their money. Eighty-eight percent of respondents to the Morgan Stanley survey said the human-to-human financial advisor relationship was extremely important.
"Within this context, AI should be viewed not as a replacement of human guidance," Jeff McMillan, head of analytics, data and innovation for Morgan Stanley Wealth Management, said in the survey, "but as a powerful tool to help turbocharge a Financial Advisor's practice management and client interaction capabilities."
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