Inside the Black Box: The Simple Truth About Quantitative Trading

11.5. ONLY A FEW LARGE QUANTS CAN THRIVE IN THE LONG RUN

I've heard this criticism repeated countless times by various observers of the quant trading world. The argument is reasonable enough at first glance, and it goes something like this: The largest and best-funded quants can throw the most and best resources at every aspect of the black box, from data to execution algorithms, and can negotiate better terms with their service providers. Based on this premise, it is reasonable to expect that, in the long run, they will outperform their smaller cousins. Ultimately, smaller quant firms will fall by the wayside due to either underperformance or investor attrition. The best shops, furthermore, are so good that they ultimately replace their investors' capital with their own, leaving the investor who desires to invest in quant trading in a quandary: Should she select smaller, inferior shops and be able to keep money with them until they go out of business? Is it better to invest in a handful of the biggest quants while that is still possible, and if they kick out their investors later, so be it? Or is it best to simply avoid this space altogether, since the two other options are unattractive?

This criticism and its corollaries are interesting theoretically but ignore many important facts about quant trading and therefore draw an incorrect conclusion. First, as evidenced very clearly in August 2007 and throughout 2008, having a large amount of money to manage is not always good, because ...