Calling all quants: Quantopian is launching a hedge fund and wants you to manage the money

By Michael Carney , written on October 16, 2014

From The News Desk

Quantopian is growing up. Five months after opening up its algorithmic trading platform to the world’s mathematicians and data scientists and inviting them to prove they can beat the market, today the company announced plans to launch a hedge fund that would see the best of the best among this community managing money on behalf of major institutions.

The company also announced $15 million in Series B funding led by Bessemer Venture Partners (BVP), with participation from returning investors Khosla Ventures, Spark Capital, and Wicklow Capital. Quantopian has raised a total of $23.8 million to date.

“We believe that there is latent demand among institutions for access to quant,” says Quantopian founder and CEO John Fawcett. “The existing options are either too black box in nature to be appropriate or too limited in capacity to make sense. We think we can offer more transparency and more flexibility in terms of allocation size.”

We are still months, maybe more than a year, from Quantopian putting any outside money to work via this hedge fund model. The company is revealing the plan today simply to inform its trading community that it will be evaluating their performance, with those proving themselves able to consistently deliver risk-adjusted returns likely to be invited to join the Quantopian Managers Program. Those selected will have access to a full suite of tools, infrastructure, and data to test and deploy investment strategies, but will still have full control over their own portfolio. It’s the closest thing you’ll see to a true win-win in the cutthroat world of finance.

Quantopian, admittedly, has only limited live trading data on which to judge its community today. But the company is already seeing massive trading volumes and has identified many managers impressively generating between five and 10 “sharpes,” a ratio measuring risk-adjusted returns. The most successful traders are pursuing market neutral trading strategies currently, Fawcett says, but this could change as the company makes more exotic data sets available and allows its managers to trade additional markets and asset classes.

Fawcett believes that Quantopian’s biggest advantage over standard quant funds will be its transparency. LPs in its fund will get access to detailed data about each manager’s trading strategy, its correlation with various markets, and historical performance.

“The second I tell an LP that we share our source code, it shatters all expectations about how algorithmic investing has to work,” Fawcett says.

In the same way, members of the Quantopian community will get full transparency into how traders are chosen for the Managers Program. Another advantage is that the company will also pay a higher carry than traditional hedge fund because it’s operating overhead will be covered by venture capital.

“I think we can design incentives to attract the best people who will put their best strategies to work on the platform,” Fawcett says. “We have the advantage of offering transparency rather than opacity, plus we pay more. We offer traders the best tools, the best data, and we allow them to remain independent. That’s fairly compelling.”

All of this sounds like a utopian scenario, but it’s very much still in the idea stage. Today, Fawcett and his team of 20 – growing to 40 over the next year – have a lengthy product roadmap that must be executed over the next year as the company continues to monitor trader performance and refine the model for the Manager’s Program. For example, how frequently will new managers be added or underperforming ones removed, and how much customization will each LP’s have over its mix of strategies and risk/return profiles? Finally, the company needs to address its regulatory status, likely establishing an RIA subsidiary to manage the fund.

Only with these questions answered and with additional data on trader performance can Quantopian go out and raise the institutional capital needed to fuel these hedge fund ambitions. That said, Fawcett claims there’s already strong interest among potential LPs in participating once the time comes. Investor interest aside, Fawcett still finds himself explaining to people that automation is good and Quantopian does not participate in high frequency trading (HFT), the current bogeyman for many market observers.

“Automation lowers cost. It allows for testing. It forces discipline,” Fawcett says. “I have to convince people that you can use tech for investing, not just for trading. The best thing about our model is that it will get better with scale, as we have more data.”

The addition of Bessemer in this latest funding round should help Quantopian think through a lot of the thornier issues of asset management. Rob Stavis, who led the deal, is a former Sr. Managing Director with Citi and was a MD at Salomon Brothers before that, overseeing the trading desks at both firms. This experience is rare in the VC world and should be a huge advantage as Fawcett looks to navigate the next phase of Quantopian’s growth.

The timing couldn’t be better to rethink the investing and asset management status quo. With millennials for the first time coming into real wealth and looking for options that make sense to their digital-first mentalities, the old model of “having a broker” is no longer attractive.

For the “set it and forget it” crowd, Wealthfront has emerged as the platform of choice. For the thinkers, who lack technical skills, Motif offers the simplest way to pursue thematic investing strategies yet more intrigue than off the shelf investing products. And Quantopian is the natural fit for highly technical individuals who want to take a more hands on approach to beating the market. It’s certainly not for everyone, but the early engagement and return data suggests that the platform is attracting real talent and helping them generate real results.

“Finance has never really had a dominant platform emerge like other verticals have,” Fawcett says. “We believe that this can be that platform. The closest thing is Aladdin, the risk management platform built internally at Blackrock that is now sold externally and extremely popular. We think we can follow a similar path, licensing our platform to other institutions. I don't believe we'll have just one revenue stream. [Operating a hedge fund] is a good one, but it won't be the only one.”

[Image via brookenovak, Flickr]