By Steve Dinnen
My twentysomething friend Walter Yu is just starting to get into investing. He has an advanced degree in biostatistics and was all ears at a recent presentation about using artificial intelligence to help him decide how to invest.
“Without AI, you need to manually read and calculate the historical data and events,” he told me, citing an example about a short-term investment in an insurance stock. “But with AI, it can help you to do the calculation and predict the chances of success.”
AI is double marching into our lives. Earlier this month I wrote about its ability to influence, or even control, legal matters, both civil and criminal. Now comes an opportunity to discuss the wisdom, or at least applicability, of using AI to outwit the pros on Wall Street.
When it comes to the broader economy, Kelly Flynn (pictured), founder and chief investment officer of the Des Moines-based Prospective Value Partners, said it seems pretty clear that AI will boost productivity and thus stimulate the GDP. When it comes to investing, he prefaced his remarks by saying they deal only with finance and economics and not the bigger questions: Should we do this? Will this be good for us? Maybe, maybe not.
Flynn thinks of AI as the next phase of what began as “quant investing” in the 1980s, when firms like AQR Capital Management and Dimensional Fund Advisors emerged from academic research, which clearly identified certain specific asset classes as successful outperformers. They did zero fundamental analysis and never spoke with managers; they simply bought and sold based on various quantitative metrics. And some have been quite successful.
Today it’s AI, through new tools available off-the-shelf for investors. The Arizona-based TruTrade, for example, is advertising a way to empower investors with trading software and what it calls AI-driven “portfolio management solutions.”
Will this technology have an advantage over those of us who still pore over those seemingly Jurassic-era 10Ks and 10Qs? Undoubtedly. But Flynn offers some important caveats.
First, if AI investing is really successful and becomes ubiquitous, Flynn suspects it will have diminishing returns. “If so many have access to the technology, then any outperformance could be canceled out because so many others are doing the same thing,” he said.
Second, Flynn said he can imagine a much more volatile market with so much AI informing investment decisions. As smart as AI is, it is ultimately developed by humans and certainly cannot predict the future. If so many AI-influenced investors lean a certain way and then something surprising happens, he suspects the consequences will be more extreme.
He concluded with a cautionary tale about Long Term Capital Management (LTCM), founded by Nobel laureates and staffed with preeminent finance academics who employed a quant strategy with advanced technology. The project went belly-up so spectacularly that it created a broader global financial panic. It’s an important reminder: No matter how brilliant the managers, with too much leverage and the smallest mistake, profits can tumble and bring down innocent bystanders.
So how will AI-driven investing evolve? We shall see.
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