Quantitative Funds Keep Eyes on the Numbers
At its core, investing is a numbers-crunching business.
Sure, many people buy stocks based on the strength of a trademark, the promise of a new product or the confidence inspired by management. But somewhere along the line, you almost have to sift through balance sheets, examine stock-price multiples and perhaps try to gauge trading momentum.
A growing number of mutual funds are focusing almost entirely on the more quantitative, objective aspects of investing while ignoring the subjective, intuitive ones. These are the so-called quantitative or “quant” funds, and several are showing good performance.
There’s no water-tight definition of quantitative analysis, but practitioners rely heavily on computers to survey hundreds or thousands of stocks, rank them for attractiveness, then build a portfolio based on an optimum mix of companies.
Many of the funds specifically try to beat a popular index such as the Standard & Poor’s 500 by loading up on the most promising companies in the index while jettisoning unattractive ones.
“The index you choose is the foundation,” says Steve Colton, who runs three quant funds for Benham Capital Management in Mountain View, Calif.
Most quant managers don’t visit companies, meet their chief executives or do other tire-kicking to formulate opinions about stocks. Instead, they let their computer programs do virtually all of the work for them.
Plenty of mutual fund managers already use computers to screen companies for desirable characteristics, which might include anything from fast profit growth to high dividend yields. But most investment pros then prune their lists using more traditional stock-evaluation measures.
“Managers in general are becoming more quantitatively oriented all the time,” says John C. Bogle Jr., who runs Quantitative Boston Numeric Ordinary Shares, a mutual fund based in Lincoln, Mass.
“Where you draw the line is how much you use quantitative tools versus subjective ones,” he says.
No two quant investors operate exactly the same, nor does anyone have a perfect model, says John Nagorniak, manager of the Vanguard Quantitative Fund.
Managers use software models that track different variables, and their methods undergo frequent refinements.
Brad Lewis, manager of several quant-oriented funds for Fidelity Investments, makes use of “neural networks” to find underpriced stocks. These are computer programs that try to mimic the thought process of the human brain in terms of pattern recognition.
“The computer learns by looking at data over and over,” Lewis says.
The hope is that computers, with their ability to analyze reams of information quickly, will be able to spot subtle patterns that can help predict a stock’s future performance.
The trick is to program the computer to focus on the most predictive investment indicators or variables from the hundreds available--a process that, in Lewis’ view, “touches on being an art form.”
Bogle, who is the son of Vanguard Group Chairman John C. Bogle, focuses his quantitative models on value measures as well as earnings estimates made by professional stock analysts.
The idea here is that analysts tend to be conservative when making profit forecasts for companies, typically raising or lowering their estimates in steps that might drag out for several weeks or months.
Analyst forecasts, which can strongly influence stock prices, form patterns that can be predicted, says Bogle. He adds that the approach works better for small companies because they’re less widely followed than the blue chips.
Colton says he looks at a relatively simple model of about 10 growth and value variables, without changing the mixture very often.
Nagorniak at Vanguard processes “all sorts of fundamental data,” as well as selected technical indicators such as stock-price momentum and insider trades. “The information available to investors is overwhelming,” he says.
Though most quantitative funds haven’t been around long, the results are encouraging.
Lewis’ flagship Fidelity Disciplined Equity Fund has beaten the Standard & Poor’s 500 in each of the four full years it has been up and running, and his Fidelity Stock Selector portfolio crushed the S&P; 500 in 1991 and 1992, its first two years.
Lewis also manages the two-month- old Fidelity Small Cap Stock Fund, which has already attracted $540 million in assets without any track record to speak of.
Among growth-and-income funds, Vanguard Quantitative has finished in the upper half for performance in five of the past six calendar years, and the Laurel Stock Portfolio, another quant fund, has done so in four of the past five years.
Benham’s Equity Income & Growth portfolio has outperformed the S&P; 500 since its inception in December, 1990, and a younger sibling, Benham Equity Growth, has accomplished that feat since May, 1991.
The Quantitative Boston Numeric fund, which debuted in August, 1992, is up roughly 60% since then.
While investors should always be careful about projecting sizzling track records into the future, the performance results generated so far by the quantitative portfolios suggests that they are here to stay.
‘Quant’ Funds
The following mutual funds are among those that make heavy use of computer software to selectpromising stocks. Quantitative analysis is a fairly new field of investing, with most such funds having been launched only within the past couple of years.
Sales 1-Yr 3-Yr Phone Fund Name Objective Charge Return Return (1-800) Benham Equity Growth growth none +13% -- 472-3389 Benham Income & Growth growth/income none +14% -- 472-3389 Colonial Growth Shares A growth 5.75% +12% +35% 248-2828 Fidelity Disciplined Equity growth none +9% +52% 544-8888 Fidelity Diversified International international none +17 -- 544-8888 Fidelity Small Cap Stock small company 3% -- -- 544-8888 Fidelity Stock Selector growth none +16% -- 544-8888 Laurel Stock growth/income none +11% +44% 235-4331 Quantitative Boston Numeric small company 1% -- -- 331-1244 Vanguard Quantitative growth/income none +13% +43% 992-8845
Total-return numbers, for periods ended July 31, 1993, provided by Morningstar Inc. of Chicago.
