After rising 20% during last year’s market turmoil, a hedge fund backed by Paul Tudor Jones that uses the stock-picking skills of non-finance quants has brought in another $100 million.
Numerai LLC, which is based in San Francisco, invests based on the “wisdom of the crowds.” It does this by collecting trading ideas from freelance data nerds, engineers, and scientists, and then paying them in its own cryptocurrency. So far, the unusual business model is working. It is based on a number of Wall Street trends, such as democratized trading, cryptocurrency, and artificial intelligence.
Since it started in September 2019, the Numerai One fund has given back 49%. The fees it charges its growing number of institutional backers are close to the average for hedge funds. Howard Morgan, a former executive at Renaissance Technologies, is also a backer of Numerai. The 35-year-old founder, Richard Craib, says that Numerai now manages nearly $300 million all-in after getting new money from an endowment and a US multi-manager. A group of investors, including Union Square Ventures, just gave the company $10 million.
“At this point Numerai really has built the next Millennium except it’s an open platform and every strategy is an AI model,” said Craib, not shying away from name-checking his larger, more established peers. “The bigger fact is the consistency of returns versus our peers.”
The success of Numerai comes at a time when Wall Street is fighting hard to find good quants, while ChatGPT’s rise shows that AI can be used by anyone. Users of Numerai get a summary of about 2,000 features of each stock, but no one knows which company they are looking at. For example, contributors are given a number that shows the market return instead of the actual return.
So, trading ideas are based on statistical patterns instead of being based on a specific economic or market intuition. Most of the time, the amateur quants in finance use machine learning to sort through the data.
All of this makes the fund a bit like a “black box” for investing because it hides the near-term factors that affect how well it does. The fund’s great performance in 2022 is part of a larger quantitative renaissance, which is happening because the new inflationary environment is better for value and trend-following strategies.
Anyone can put ideas into the crowdsourced fund as long as they bet on them with tokens that Numerai gives out. The small group of in-house quants then combines the stock market predictions, which are weighted based on the stakes. The company makes sure that its overall portfolio isn’t biased toward a certain sector, country, or factor. A factor is a quantitative term for a common stock’s price or how quickly it’s gone up. Those who made models that won get more tokens. Losers have their bets cut down.
Craib said –
“Numerai gets to assimilate the advances in artificial intelligence much faster than other hedge funds”
“Some new user will join, have an innovative idea and it immediately gets integrated into our trading strategy.”
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Few crowdsourced hedge funds have really worked, and Numerai’s track record is still short. The last well-known example, Quantopian, shut down in 2020 because it was hard to turn a number of hypothetical strategies into trades that could be scaled up in the real world. There’s a good reason why skeptics think this: if even experts have trouble beating modern markets, how could newcomers who don’t have as much technology or experience do it?
Craib thinks that the reason Numerai has been so successful so far is that players have something at stake and are quickly rewarded or punished for their choices. Most of the people who consistently do better are advanced data scientists who don’t work in finance.
Winners are paid in the company’s own volatile cryptocurrency. According to CoinMarketCap.com, the Numeraire, or NMR, token has lost about 34% of its value over the past year, which is less than Bitcoin. It is now worth about $220 million on the market.
Craib says that this drop hasn’t been enough to change the business model yet. “If we get to $1 billion in AUM we’re going to have no problem paying our users in any currency they want,” he said. “Right now we like NMR, but in the future it could be any currency or payment.”
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