Rick Roche, CAIA - StarChapter...FPA of San Antonio & South Texas - Richard Roche 05/22/2019 1 Rick Roche, CAIA 2013-19. Managing Director – Little Harbor Advisors, LLC 2019. Roche

FPA of San Antonio & South Texas -Richard Roche

05/22/2019

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Rick Roche, CAIA2013-19. Managing Director –

Little Harbor Advisors, LLC

2019. Roche Invest AI, LLC

38-YR industry veteran

Kidder, Peabody & Smith Barney financial advisor

Series 3, 7, 63 & 65 licenses

Chartered Alternative Invt. Analyst; Member-Society of Quantitative Analyst

Compulsive Counter; Light Quant; Data-Science Curator

Trained 74,500 financial pros

(c) 2019 Little Harbor Advisors, LLC 1

Model Behavior – AI/ML & BIG DataAction Agenda

Follow the Money!

Machine Learning Origin, Applications & Diffusion

Quants: Then & Now! People, Players & AI/ML Practitioners

‘Revenge of Nerds” ML & Big Data Asset Wealth Managers

Quanta-mental Diffusion

Digital Disrupters-Amazoned?

AI-ML & Big Data Drawbacks

Steps for CFPs to Enhance Job Security/Stay Relevant!


Which is Bigger? Do the Math.


Quant HFs $932Bn-AUM

$88.5 Trillion-Dec 2017; “The New Great Game in No. American Asset Mgmt”, Nov 2018 by McKinsey

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Put Quant AuM in Perspective


“Quant Investing: Bridging the Divide” Morgan Stanley, October 1, 2017

AI Birth: When, Where, Why?


AI-Machine Learning Overview


1955. Dartmouth John McCarthy. Artificial Intelligence (AI) - Power of machine to mimic intelligent human behavior, incl., if-then rules, logic and statistical methods

1950’s Machine Learning. Subset of AI, algorithms focused on finding patterns & making predictions

Computer programs itself - learnsby analyzing large data or novel sets.

When there are too many “ifs” to code, Machine Learning to rescue…

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May 11, 1997. Game 6 1952 – 1962 Beat CT Champ

Feb 2011. Final Jeopardy Watson Mar 2016. DeepMind vs. Go Champ

Playing Games to Major Disruptor!ML detect patterns and make predictions by processing data, rather than explicit programming

ML avoid elaborate programming by defining rules rely on Inputs

ML algos adapt in response to new data & experiences to “learn” or improve efficacy over time!

Machine Learning intersection of Computer Science & Statistics to find patterns in datasets

ML heavily weighted towards predictive modeling vs. inference!

Uses probability to make product recommendations, speech recog…

2016 Due Diligence Material 8

“How can we build computer systems that automatically improve with

experience…” , Tom Mitchell, PhD former Chair, Machine Learning Dept. CMU

ML- Prediction Machines


2015 - 67,318 papers on ML in SSRN over 12-months

2017 – 14,000 asset mgmt papers - BIG Data/Analytics

ML = Cheap Prediction

When prices fall, use more!

Use information you have to generate info you don’t have

Cheap Predictions = + Demand Human Judgment/Expertise!

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Humans & Machines Cohabitate


Machine Learners – Asset Mgmt.


“Big Data & AI Strategies: Machine Learning & Alternative Data Approach to Investing: Lead authors M. Kolanovic & R. Krishnamachari, JP Morgan, May 2017

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Features (Attributes) & Labels

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ML Model Behavior


Classifier network. Algo classifies new observed data into categories.

Regression trained with goal of level estimation/numeric value

Clustering. Assign observations into subset “cluster” where data are similar, e.g. Netflix/AMZN



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Deep Learning – ANN/DNNDNN has 3 layers: 1) Input; 2) Hidden Layer(s); 3) Output

Analyzes data by passing thru multiple layers (neurons) -software-based calculators –that learn increasingly complex features of data

Extract data features passing multiple filters in over-lapping segments data/weight data.

ANN infer patterns in data

and make predictions

Widely-used in image, voice recognition; NLP-text analysis


Biologically inspired programming attempts to mimic human brain

Algo Trading: In a Blink of the Eye


300-400 milliseconds-Eye Blink

HFTs trade in 10 microseconds

HFT 40,000 Back-2-Back trades

New Frontier – Nanosecond (bn)

HFTs trade on “news analytics” on DJ New Wire w/in 5-seconds

RenTec Atomic Clock Patent (bn)

Stocks. JPM est. 5-10% stock vol. by fundamental traders¹

~60% of equity trades by HFT

805 futures products; 1.5 Bn-Trades. 5% trades in Pit

86.7% of E-mini SPX is ATS; ES 2nd most active; # 1 EuroDollar

Very Few End-2-End Portfolio Design


“Artificial Intelligence – Chances & Challenges in Quantitative Asset Management”, Aquilla Capital Systematic Trading Group, Hamburg 2018.

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AI-ML After Decades of Promise – Why NowMoore’s Law. Cheaper/faster; 1-Gig storage $277 to $0.79

Nvidia GPU chips. 70Xs faster than CPUs – deep learning

Cloud Computing – lowered AI barrier of entry for crowd

2016 1.49Bn Smartphones Sold! 40% Adults own SmtPhs

1,459 Satellites Dec-16/IoT Smart Sensors 2Xs every 2 yrs.

BIG Data Cambrian Explosion (500+ Alt Data Providers)(c) 2019 Little Harbor Advisors, LLC 19(Machine | Platform | Crowd, McAfee & Brynjolfsson, 2017/JPM “Big Data”)

World’s 1st Quant Fund Manager

MIT Math & UC-Irvine Math & Quant Finance Professor

Expert in Game Theory/Stats

Used IBM 704 & Kelly criterion to count cards/place casino bets

1962. Beat The Dealer: Winning Strategy for the Game of 21

Co-invent 1st wearable computer with Claude Shannon of MIT

Early 1980’s pioneered Statistical Arbitrage with Gerry Bamberger

In 2010 book, The Quants, he’s called The Godfather of Quants


Market Mathematician/Magician

1967. Beat The Market: Scientific Stk. Mkt. System. Sheen Kassouf

1969. Convertible Hedge Associates - Princeton/Newport Partners

C0-founded 1st “Market-Neutral” Derivatives Hedge Fund/converts

1969-1989. PNP Return 15.1%; STDV 4% and Sharpe ratio of 3+

1969. Shared his option formulas w/Fisher Black & Myron Scholes. Advanced Thorpe’s delta hedging strategy assuming no arbitrage

200 Long/200 Short; O beta; Mkt Neutral; Kelly-sized Bets ½ of 1%

Market Wizards -- “..Two best records…ever complied in trading…”(c) 2019 Little Harbor Advisors, LLC 21

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The Black Box Revealed


The Evolution of Quantitative Investment Models

Goals. Evaluate wide swath of securities, build portfolio more efficient & dispassionately than subjective models

Quants use widely shared Value & MOM alpha signals, 3rd party optimizers, risk mgmt system & execution algos

Quant Quake-Aug 2007 showed risk of copy-cat quants

Today, advanced Quants use Data-Driven Strats (AI/ML)

Quant Models -- Then & Now


1st Gen Generic Quant Models used computers/algos for yrs.!

Systematic Traders early quant

Most use small data/price data

Most/many static algorithms, subject to model (alpha) decay

Execution algorithm dominate Equity trading/Mgd. Futures

Next Gen Quants use Big Data to “train” machines w/ML

“Data-Driven” alpha models neither common or easily used

ML applied parameter setting; avoid overfitting a model

ML algos seek patterns/CORR: Relative value trades; NLP to read text for Invt. Sentiment

Revenge of the Nerds – AI/ML


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Renaissance Technologies LLC (RenTec)Founded 1982. $131Bn-AuM

James Simon, PhD Math, NSA code breaker/Math Champion

Use Big Data/advanced math models long before other HFs.

Cryptography/Hidden Markov models seek short-term signals

Medallion averaged 71.8% ann. rtn-before fees-1994 to 1H2014

RenTec controls 4 Hedge Fund Medallion closed! 99% owned

Trend-following roots. Use mgd futures to express ideas


"From 2001 thru 2013, the fund’s worst year was a 21 percent gain, after … fees. Medallion reaped 98.2% gain in 2008, the year the S&P 500 Index lost 38.5%." Rubin & Collins. 06/16/15, Bloomberg

RenTec Medallion v. Buffett/BRK1988. RenTec acquires Kepler Financial Mgmt - StatArb firm

1991. RT raids IBM’s Speech Recognition/Translation Team

Strong connection bwtn speech recognition & market signals!

NLP maps speech to predict

next sound; adapted to securities

Short-term trading of futures-easier predict S-T movements

Peter Brown, Co-Head-RenTec

“We have 10,000 processors … constantly grinding away looking for signals”¹


17.1% BRK vs 40.6% Medallion (2.4x)BRK 6 down yrs. vs Medallion 1 yr.

2008 BRK down; Medallion up 98.5% Medallion only 2-yr earn > 21% return

DE Shaw & Co./GroupGlobal Invt & Technology Firm

PhD/computer science Stanford

1986. Morgan’s APT hired D.E. Shaw, parallel processing expert

1988. Quit MS; Open shop over communist bookstore/Village

Statistical Arbitrage pioneer

Dr. Shaw infamous for keeping DE Shaw’s secret sauce Secret!

David E Shaw is Chief Scientist

$50B of invt capital (Decl 2018)

250 Technologists at DE Shaw²¹ The Quants, Scott Patterson, 2010, p. 43

²”2016 Tech 50: Neil Katz”, Instl Invt., 2016


“Our goal is to look at the intersection of computers and

capital, and find as many interesting and profitable things to do in that intersection as we can.”

– David E. Shaw, PhD

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Bridgewater Associates, LP

(c) 2019 Little Harbor Advisors, LLC 28Accessed from https://jobs.bwater.com/explore/technology_lounge on 07/04/17

About Ray Dalio: Paul Volker admits to feeling that “ he has a bigger staff, and produces more relevant statistics and analyses, than the Federal Reserve.” – Paul Volker in “Man and Machine”, The Economist, 03/10/12

Dave Ferrucci, PhD Senior TechnologistIBM Fellow led 30 A.I. researchers who built DeepQA Project. In 2011, Watson beat the world’s best Jeopardy! players.

Founded 1975. $163Bn-AuM

Dalio obsessed with cognitive biases/Principles-Algorithms!

Believes in expert systems like

“Systematized Intelligence Lab” to automate day-2-day management

Dalio doesn’t like machine learning moniker (prefers AI)

Bridgewater models informed by “Economic Machine” works

Combine Data Science, Software Engineering + Product Mgmt

Bridgewater more a technology company than it is a hedge fund.

Two Sigma – Applied Data Science


Founded 2001. $78Bn-AuM (2018) Co-Founder, David Siegel, PhD, in

computer science from MIT Co-Founder, John Overdeck, Intl

Math Olympiad, MS-Stats-Stanford Co-Founders worked at D.E Shaw 1,100+ employees. 2/3rds in R&D “Harness data from thousands of

diverse sources” Guided by the Scientific MethodHired, Mike Shuster, Google Brain,

to consolidate AI research. Shuster was Google Sr. Scientist for 12-yrs

Host hackathons, sponsor contests, programming challenges to recruit future associates!


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Quant-amental Synergy


Fundamental Analysis

QuantitativeComputations

AI/ML Investing Gathers Steam

Mar-2017, BLK moved $30B (11% active equity assets) to “scientific active equity” funds – combining BLK quants & its stock-pickers

BLK let go PMs, re-christen BlackRock Advantage/lowering fees

BLK’s Mark Wiseman told Bloomberg, “We can more efficiently deliver alpha at a better cost with automated processes” (3/28/17)

BLK’s $100Bn quant shop-- Systematic Active Equities (SAE)- SFO

1985. SAE’s fund, Alpha Tilts. Today, 80 quant PMs incl. 30 PhDs

2018. BLK opens “Lab for AI” in Palo Alto, CA; “Data Science Core”(c) 2019 Little Harbor Advisors, LLC 32

BlackRock, Inc. – BLKBlackRock has $6.3 TR-AuMBLK is Fund/ETF Lead Steer

PIMCO Going All-In on AI?Bond King, Bill Gross, to Machine Learning Algos

1966, Gross @ Duke, car accident; read Ed Thorpe!

Gross’ Masters thesis on convertible bonds/Thorpe

Grow FI Analytics Team; Grow workforce 10%/250

Hire U-TX technologists to

lower costs/Predict Inflation

New Slate PIMCO FI funds driven by Machine Learner


Minds & MachinesPIMCO $ 1.77 Trillion (03/18)One of Top 3 Largest FI MgrsUse Bond Market Math & ML

to search Private Debt bets

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Tech Innovation Estimation Errors

"We always overestimate the change that will occur in the next two years and underestimate

the change that will occur in the next ten." -- Bill Gates, The Road Ahead (1996)


BIG Data Drawback/Side Effects


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Jobs at Risk of ML/AI Disruption


Up Next, FinTech Disruption


Chatbots as Digital Disrupters


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HNWI interest in AWM by BigTech?


“World Wealth Report 2017”, Capgemini, Figure 20, 2Q 2017, p 22.

BigTech on Doorstep


Schwab Intelligent Portfolios Premium


Commoditization

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BigTech – Big Threat


Fire Hydrant – Drowning in DataTsunami of New BIG Data

90% of digital data today was created w/in last 2-YRs¹

Avg. 4,000 brokerage Rpts. per day/36,000 pp/53 languages³/MS 80,000 Rpt²

5,000 public company docs filed daily/150,000 words in a 10K Annual filing w/SEC³

Earnings Season – up to 400 conference calls per day³


¹“Big Data & AI Strategies: Machine Learning & Alternative Data Approach to Investing”, Lead authors M. Kolanovic & R. Krishnamachari, JP Morgan, May 2017;

³“Tone At The Top? Quantifying Mgmt Presentation”, Luo’s QES Research, Wolfe Research Multi-Dimensional Alpha, Jan 23, 2018, page 6 & 9-10.

Sources: JP Morgan; IBM; EMC; ³“Finding Big Alpha in Big Data” The Evolution of Active Investing”, BLK’s Scientific Active Equity, March 2015²

Need to Speed Read – Use NLP


At its core, artificial intelligence is “based on doing ridiculous amounts of multiplication problems very fast!” – John Wihbey, M.S., Prof. at Northeastern/Author

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Lexicons 4 Central Banks/Stks.


Social Media - Crowded Trade?


Eye in the Sky/Satellite Alpha


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Data Sets for Alpha Generation


Estimates that only 0.5% of data currently analyzed.~80% of Big Data in unstructured/unsupervised data sets(source: Patrick Wolfe, PhD UCL Big Data Institute, 2013)

From Checkmate to TeammateCentaur amplifies Human Freestyle Chess Tournament

1) Rely solely on AI program; 2) Human only; 3) Human + pc

Final Four were all “Centaurs”

Winners two amateur – soccer coach & d-base administrator

Used three AI programs run one consumer grade pcs

Today, best chess AI programs consistently lose to Centaurs

Winners are amateur players who understand & integrate AI

Human-Machine pairings Excel


June 2005. Online “Freestyle Chess” Match

won by dark horse, ZackS

Human + Machine Intelligence

Racing with the Machine beats Racing against the Machine

Artificial intelligence won’t replace human intelligence

“Assisted Intelligence” – automation of repetitive tasks

“Augmented Intelligence”. Human + Machine collaborate

Even advanced FinTech still requires human intervention!(c) 2019 Little Harbor Advisors, LLC 51

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Advisory Model: 360ºFunctional View


Hybrid Advice: What to Automate?

Quantify Your Value to Client

(C) 2008-15 Roche Securities Sales 54

“Quantifying Your Value to Your Clients”, Vanguard Advisor’s Alpha”, Kinniry, Mar 2014

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How to Quantify Advisor Alpha

(C) 2008-15 Roche Securities Sales 55“The Evolution of Vanguard Advisor’s Alpha: From Portfolios to People”, January 2018

Minds & Machines: The Rest of the Story

Augmented Intelligence Key TakeawaysResearch Quant Funds, if it has low or – CORR to equities & up more often

Diversifier to Qual./Index

Automate Portf. Rebalance & Performance Reporting

Communicate Your Value!

Learn a new language – in Programming. Python or R

Test-drive Algo trading at Open-source Platform!


Not either or proposition. Combine human intelligence with machine.** FinTech can help engineer better invt. outcomes for your clients** Enhance portfolio construction** Automate client servicing tasks to free-up time for behavioral coaching

Rick’s Recommended Reads


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Author/Speaker DisclosureThe information contained in this

presentation was obtained from sources

believed to be reliable, but its accuracy

cannot be guaranteed. The information

communicated is NOT intended to

constitute individual investment advice

and is not designed to meet your personal

financial situation. Opinions expressed

herein are those of the presenter, Rick

Roche, and not of Little Harbor Advisors.

Such opinions are subject to change

without notice. Information may become

outdated & there is no obligation to

update any such information. Any errors

are the sole responsibility of Rick Roche.

58(c) 2019 Little Harbor Advisors, LLC

Sources & Firms CitedRick Roche (and Little Harbor Advisors)

have NO affiliations with the industry

sources and firms cited in this

presentation. In addition, Rick Roche has

not received any compensation for

mentioning services or products. His

citation of said firm or service is not meant

to be an implied endorsement. Rick

Roche and Little Harbor Advisors are

not affiliated with any of the firms cited.

Opinions expressed in this presentation

are subject to change without notice.

Information may become outdated and

there’s no obligation to update any such

information.

59(c) 2019 Little Harbor Advisors, LLC

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Documents

Rick Roche, CAIA - StarChapter...FPA of San Antonio & South Texas - Richard Roche 05/22/2019 1 Rick Roche, CAIA 2013-19. Managing Director – Little Harbor Advisors, LLC 2019. Roche