Introduction/ Miscellaneous comments on Quant Trading Quant trading is:  Repeatable  Encoded in software  Not necessarily high turn-over

strategies  Allowed to be long horizon  Focussed on the market impact of trades  Reliant on processes that are repeatable, well tested and possess forecasting ability. A quant manager:  Can only evaluate information which is systematic.  Creates portfolios which are diversified, broad, optimized and based on strong signals. These features are necessary to earn a profit when transaction costs are high.


*** Styles: Quant Equity: Long horizon optimized portfolios driven mostly by slow varying data Long short portfolio; Market Neutral Turnover at multi-month horizon Very similar to fundamental money managers  Signals used are a combination of value signals (Stock is cheap on some parameter like book to price) and momentum signals. Vast majority of money managed by quant managers falls under this segment They were most involved in the Quant melt down of Aug 07 ***High capacity:  Quant Equity funds can take on 100’s of millions of $ per client at a time. However, it doesn’t necessarily possess the best risk/return trade-off or Sharpe ratio. Large leveraged positions Constrained by risk tolerance Returns are earned on positions. Trading is moderately costly. Statistical Arbitrage: Turn-over on a daily, weekly basis. Optimized portfolios driven by data that changes throughout the day. Capacity constrained. Leveraged portfolios of limited size. Returns earned on positions; trading is very expensive. HFT: Turnover several times a day. Trade list not determined by investor. Severely capacity constrained. Constrained by trading opportunities. Profits from trading. Portfolio composition is more incidental. Highly influenced by Equity market structure and regulatory reforms.



when one set of funds started to de-lever.  They pay commissions. Usually. In Aug 2007. doing “smart guy” trades. The rule benefits investors because the publication of trading interest at prices that improve specialists' and market makers' quotes present investors with improved pricing opportunities.  They decide what they want to trade. - Factors influencing growth of HFT Growth spurred by regulation changes which allowed non-broker dealers to make markets. most quant portfolios have similar characteristics and have significant degrees of correlation since the drivers like momentum. others were forced. a majority of these funds started to liquidate their positions. The High Frequency Traders provide liquidity.Quant Macro: Trading futures. value etc are common across the board. the specialist or market maker must publicly display it.  They place bid and asks in the market and provide market making services. bond. As such. Analytical Style: Convertible bond arbitrage. The Limit Order Display Rule requires that specialists and market makers publicly display certain limit orders they receive from customers.  Bounced back on the 10th. and currency markets. - . they weren’t Quant managers. They could now quote bids and offers in listed stocks directly.  Over the next few days. If the limit order is for a price that is better than the specialist's or market maker's quote. portfolios were de-levered leading to huge losses.  Process started on the 6th. (from SEC) Exchanges provided TAQ (Trade and Quote) data on which enabled tick by tick research Quant Crisis of August 2007 Involved the Quant Equity style (long short portfolios. LTCM were analytical managers. Random Facts Quant Equity Managers and Statistical arbitrageurs are liquidity demanders. market neutral).

liquidation is forced (at leverage of 10 in the diagram below). Leverage in this case is 6. if you have a certain margin requirements and you lose money. Once you hit this limit. Case 2: Now consider your initial long and short position lost 2% value. you need to start so immediately. your equity goes down and leverage goes up. New Equity= $100 – (2* 500*.02) = $80. When everyone starts to unwind. . Consider the equation: Leverage = Assets/Equity. thus. Leverage keeps creeping up and if you are faced with liquidating a large portfolio. Assets are 490/510 but we can average it out and still call it 500/500. We can alter leverage by buying or selling assets. You have to keep de-levering and shrink asset size and keep Leverage within bounds. stock prices tend move even more quickly against you. you have to mark to market. Market for quant traders have never really recovered after the Aug 7th crisis. Case 1: Equity=$100. Assets = $500(long) over $500(short) => Leverage = 5.25 This is a problem since people lending you money have certain leverage restrictions.Crisis further explained by the risk of leverage: In case of high leverage. This style has gone enormously out of favour post this crisis.

In 2009. Before REG NMS.establishes minimum pricing increments. Sub-Penny Rule . Some of the more notable rules include: 1. . . Access Rule . In 2001.Most liquidity is non-displayed. A more formal definition (from wiki): A series of initiatives designed to modernize and strengthen the national market system for equity securities. 84% of listed securities traded on NYSE. 2. specialists could make money at the cost of investors. Some Consequences Lead to emergence of co-location and sponsored access as aggressive pricing competition started between trading venues.Equity Market Structure Evolution: REG(ulation) NMS (***National Market Structure): Markets voted for speed. 3." It seeks to foster both "competition among individual markets and competition among individual orders. REG NMS rewarded speed by protecting quotes at the top of the order book (see Order Protection Rule below). Order Protection (or Trade Through) Rule . it’s only 42%.provides inter-market price priority for quotations that are immediately and automatically accessible.addresses access to market data such as quotations.

***Front Running (from investopedia) Front running is the illegal practice of a stock broker executing orders on a security for its own account while taking advantage of advance knowledge of pending orders from its customers. Markets were reflecting this anxiety.***“Traded Upstairs” : Traded by broker dealer and not taken to the exchange floor. Order queues have a price-time priority. or sells (where the broker sells for its own account. purchasing first for its own account gives the broker an unfair advantage. . S&P futures were catapulting down due to these macro-economic catalysts. since their volumes are so low. since it can expect to close out its position at a profit based on the new price level. before filling customer sell orders that drive down the price). Speed is necessary in the competition to provide liquidity. Doesn’t affect retail folks. The front running broker either buys for his own account (before filling customer buy orders that drive up the price). BATS/ ATS etc provide rebates to people to post bid/offers at their venues. Flash Crash: Greek sovereign debt crisis was at a peak. When orders previously submitted by its customers will predictably affect the price of the security. ***Colocation: Your servers are placed wherever the exchange servers are placed.

Stub quotes are used by trading firms when the firm doesn’t want to trade at certain prices and wants to pull away to ensure no trades occur. then a stub quote is entered so that the market maker complies with its requirements without extending its quotes beyond its available liquidity. However.- Slow mode: If stocks seem dislocated. Dodd Frank Bill which aims to reduce systemic risk and ending too big to fail! Volcker rule which directly affects prop trading. In order to make this happen. . trading in the stock is slowed down by the trading venue. due to the slower speed. A stub quote also serves as a safety net in that if a market maker doesn’t have enough liquidity available to trade a stock near its recent price range. BATS and direct edge are the primary electronic trading venues. Regulations/Preventive Measures SEC recommended circuit breakers to avoid repetitions. This reduced liquidity. A stub quote is also referred to as a "placeholder" quote because this absurdly priced transaction would never be reached. NYSE group. the firm will offer quotes that are out of bounds. *** Stub quotes (from wiki) Order placed well off a stock’s market price. REG NMS takes the venue off the grid at this moment. Trade through: A stock market order that is not executed at the best possible price according to quoted prices at other exchanges. - *** NASDAQ.

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