Renaissance Tech is an interesting read.

Here's a couple of stand out items I cherry picked for no particular reason what-so-ever...

According to the Center for Responsive Politics, Renaissance is the top financial firm contributing to federal campaigns in the 2016 election cycle, donating $33,108,000 by July.[33] By comparison, over that same period sixth ranked Soros Fund Management has contributed $13,238,551.[33]

On 25 September 2008, Renaissance wrote a comment letter to the Securities and Exchange Commission, discouraging them from implementing a rule change that would have permitted the public to access information regarding institutional investors' short positions, as they can currently do with long positions. The company cited a number of reasons for this, including the fact that "institutional investors may alter their trading activity to avoid public disclosure".[32]

Luck can be the actual explanation.

By the law of the large numbers, some funds will be a success for quite some time. Just as some people do win the lottery.

I don't think it's surprising that a couple of funds have a great track history even if the game is just pure luck.

They may also play version of martingale strategy where they pay for higher returns now with increased losses if some rare event in the future happens. This is how very successful hedge funds can beat the market for decades. There is hidden risk somewhere and you better jump off before it is realized.

No, luck cannot be the explanation for what these quant funds do. These funds are run by mathematicians. People with PhD's in probability and physics. They are not being fooled by randomness. They are right, and they are right consistently.

However, they are also at least generally, not making traditional 'investing' decisions. They are making statistical arbitrage bets - they are looking for instances where mispricing exists in the market, and they can make a guaranteed (statistically) profit by buying and selling statistically equivalent securities at different prices. The classical simple example is pairs trading: you notice that coke is always worth 10% more than pepsi, so when you see coke trading at 15% more than pepsi, you short coke and buy pepsi, betting that the gap will close to its traditional norm. Now, what they are doing is obviously substantially more complex and rigorous than that, but that is its flavor.

Wow, this is the height of hubris. Of course luck can play a factor. There's no law of the universe that a correlation you observe over the past century of human activity is going to hold indefinitely. Obviously some quant funds have better models than others and it's not wrong to attribute that to intelligence and skill, but they absolutely can have the rug pulled out from under them by changing market conditions make no mistake.

They trade very, very often. You can be lucky if you buy a couple of stocks and wait around a few years. Someone I know had parents who bought Nokia in the 1980s and sat on it until the mid 200s. That's luck.

You can guess a coin flip 5 times in a row. A few people out of a hundred will do so.

But you cannot get significantly over 50% correct on millions of coin flips. That's not luck.

First of all, I explicitly said that it's not wrong to attribute winners to skill, but you still feel the need to put my argument in a binary box, very well.

Your mistake is treating each trade as an independent event. But in reality all those trades may share a single methodology which can be invalidated by a single unprecedented market change. Yeah, a fund is a perennial winner until it's not. You can call it being unlucky or you can say they went from being smart to stupid. It doesn't really matter what you call it, the point is past performance is no guarantee of future returns.

>>Your mistake is treating each trade as an independent event.

They largely are.

The people who fall under your criticism are the old school stock pickers. For instance, people who've grown up during the long decline of inflation and rates might have hit a wall over the last few years. A lot of those guys were essentially riding the same wave over multiple trades.

But the kind of trading done in stat arb is largely independent of such long term trends. They change around their positions so often that there's hardly any regime that they are biased towards. High vol? Been long and short. Rates going up/down? Been long and short. Economy? Been long and short.

Sure, there might be some hidden regime that we've yet to hear about, that's possible. But there's quite a difference between the quantitatively astute funds and the other long-lived ones.

Sorry, not drinking your koolaid. Any exploitable "stat arb" will go to zero as it's exploited, or if it grows large it will move the market. There are no statistical axioms which are guaranteed to make you money, because if there were it would change once enough people discovered it. Anyone that's far out enough ahead can find these things for a while, but there's no way the average investor ever gets close to it, they're not exactly cold-calling senior citizens with these amazing opportunities.

That's still using the past to predict the future. There's nothing inherent about coke and Pepsi being 10% apart - so they may have that ratio, until they don't.

I had a conversation with a co worker about this. Its basic probability. Lets assume they make at least 1 trade a day and they have been doing this for the past 25 years. Its a simple binomial probability problem. For them to be correct on that many trades and it to be 'luck' would be a probability in the ~0.00001% range.

You're assuming all trades are the same size and have the same upside (and downside) risk.

How do you distinguish between pure luck and actual skills?

That's the argument from A Random Walk for index funds: even if such skills exist, they're indistinguishable from luck, therefore one can't make an informed choice of active fund.

It's impossible to perfectly distinguish them. Anyone that seemed to be skillful could just be incredibly lucky.

But you can get determine a likelihood that they are lucky by monitoring their performance over a long time / lot of games. It's just that if you are evaluating a whole lot of people looking for a rare skillful person, you need a whole lot more time/games to be sure they aren't lucky than if you just had one person to evaluate.

You cut that sentence short...

"How do you distinguish between pure luck, actual skills, and illegal manipulation?"

I believe his point is that you can't, because "actual skills" need not exist. It might ALL be luck, and outliers will exist. And, their existence doesn't prove anything about luck or the lack of it.

Conversely, if the difference between luck and skill is unknowable, everyone who wins might be skillful. As you said, the existence of winners is not revelatory about the existence of skill.

Related: one can be highly skilled and still lose to someone who is highly lucky.

You should see that your candidates will falter as time passes.

Suppose there are 10 funds with the track record of RenTech. In 10 years, you wouldn't expect them all to be as stellar.

You do more MATHS :D

There are models to model the risks and the potential outcomes.

Believe me, Jim Simons didn't rely on luck. He's a mathematics genius and rather creative. You could say he was lucky in that he sort of pioneered the entire algorithmic trading thing and was well ahead of the curve because of that. It was simply low hanging fruit for a long time before others began to catch on.

Point is, could you have identified Renaissance Technologies in 1994 as one of the few companies to beat the market? If not, then your odds are better going with an index fund.

At this point, because of Renaissance Technologies' success, their fees will likely offset the gains they'll net you.

They still make you tons of money net of fees. However, because of their success, they very quickly attracted all the money they thought they could handle and closed the fund to new investors.

I think recently their performance slipped a bit and they started taking money again, but the above point was true for a long time.

There's a subtlety here:

Renaissance is a company which manages hedge funds. They're famous because their main fund, Medallion, has done exceptionally well. The only investors in Medallion are Renaissance employees; it's capacity is limited, so that even employees can't generally invest as much as they'd like. Renaissance also manages several other hedge funds, which have much higher capacity, and have both employee and outside investors.

The point of index funds isn't that at any moment in time no one can have a market beating strategy. The point of index funds is that by definition the bulk of the market can't have above average returns. So as a retail investor your best bet is to just find a cheap way to ride the average of the market.

True but some of my active funds correctly saw the problems with the UK banks and got out before the big losses an index fun would have had to buy those banks and taken the loss.

The saying is "a broken clock is right twice a day." Correctly reading and responding to market conditions is not sufficient. You have to do it continually.

which a lot of my Investment trusts have done for several decades

Care to share the love and say which investment trusts?

That's a valid point, but plenty of people do claim that "no one can have a market beating strategy". Strong EMH.

And yet one of the assumptions of the EMH is that there are people who beat the market (using pre-public information), which is why you can't. The EMH is just saying that 31/32 teams will not win the Super Bowl.

Unless there's a version of the EMH that doesn't believe in the speed of light.

Those people are demonstrably wrong. See: all successful quant funds, HFT firms, etc..

this company is like citadel, which is that their main business is market making and non-directional trades. They dont pick directional investments, as most investors do. rather they are in the middle picking up pennies, except many billions of them. But these returns may be exaggerated or there is information missing...20% a year far exceeds the rate capital is being created by the global economy. At that rate, it would eventually own the world and all markets. I think their actual returns, assuming the fund still trades (its operations are very opaque) are much less...maybe 5-6% year. The bigger a fund gets, the more impact its trades have on markets, which limits its size

This is not an accurate description of that hedge fund.

The point is not that all human-picked funds/portfolios perform worst than index funds, but that most of them do.

Go over to Bogleheads and say that. They'll set you straight pretty fast. The point is that over a long enough period of time, there is no advantage to managed funds vs. index funds and the managed funds usually underperform. Some firms have played tricks with their funds to make them appear to beat the market, but it's never sustained.

But in the event of an extreme rally, your picked stocks can make you a huge return. Fast. Then you cash out and play it safe.

Risky, but this is why people try to beat the market. This is the allure of gambling.

Amusing trivia: Peter Brown, co-CEO of Renaissance Technologies, got his PhD under the supervision of Geoffrey Hinton.

Agreed, it doesn't explain many other outliers too. A classic exploration of this, and a direct refutation of Malkiel is Buffett's own: https://www8.gsb.columbia.edu/articles/columbia-business/sup...

Time travel. You land in 1990, you can either try to replicate netscape/broadcast.com/yahoo/google/myspace/etc coding your heart out, or you start an investment fund and let money snowball by picking obvious winners from memory.

It could be another Madoff scheme.