How an AI Engine (with Help from Quantum Computers) is Beating Human Portfolio Managers

Dr. Bernard Lee HedgeSPA

Dr. Bernard Lee of HedgeSPA tells us about the analytics platform’s success in the ESG space. 

First of all, how are you and your family doing? 

Dr. Bernard Lee: We are doing fine. Thank you for asking.

Tell us about you, your career, and how you joined HedgeSPA.

Dr. Bernard Lee: I was a Managing Director at BlackRock’s Portfolio Management Group in New York, having built the multi-asset functionalities of BlackRock’s Aladdin system (based on IP from my Ph.D. dissertation, meaning that I own the background IP) so that Aladdin is running 17 trillion US dollars of assets today. Initially, the analytics was used by the alternatives division at BlackRock, where allocations were made to both internal and external fund managers as well as direct investments.

One of my claims to fame was that these analytics correctly predicted the demise of the giant hedge fund Amaranth, which almost took down JP Morgan with it had the NY Federal Reserve Bank not intervened (Bloomberg recorded this story). 

HedgeSPA was seed-funded by the Singaporean Prime Minister’s Office to rebuild the investment analytics platform from scratch using my background IP. The platform has since achieved multiple years of independently verifiable track records with as much as double-digit per year of outperformance with no leverage and no sector/country bias, and the outperformance (in terms of both positive returns and positive skewness) has been consistent across 5 different markets. 

How does HedgeSPA market its product/services online? 

Dr. Bernard Lee: Our business model is B2B. Let me give you an example of how we convince our users/investors. Human portfolio managers may make it big one month and then give it all back the next. They don’t care because they often keep a cut of the up month even if you lose more next month as an investor. So, we ask our potential users/investors how they know whether their human portfolio manager is delivering true alpha? 

1. Ask for histograms similar to those shown in our performance sheets. See if they can consistently show positive active returns and skewness across multiple markets as we do.

2. Ask for outperformance track records (ideally independently verifiable) without using leverage and/or sector/country bets, as we do.  

3. Ask for an explanation of how much fees they will STILL be charged in case the manager loses money for investors, unlike how we charge for our services. 

Our main distribution channel is through partners (e.g., private banks whom we work with) to establish trust. While we deliver most of our services electronically, the most effective form of online marketing is explaining to users/investors what they may expect from us versus our competitors, based on the above points. We also participate in industry and academic conferences, most of them being online these days, to draw public attention to what we do. For example, this is one of the top conferences where we will be presenting our work in May 2022

How the coronavirus pandemic affects your business, and how did you get through it?

Dr. Bernard Lee: We were lucky in that we took our burn rate down right before the pandemic due to natural factors such as graduates finishing up their scholarship bonds and choosing to go back to their home countries. The team switched to more internally focused automation tasks in anticipation of a pick-up in volume when the world returns to normalcy. 

What specific tools, software, and management skills are you using to manage your online marketing?

Dr. Bernard Lee: As we focus on content marketing, it is primarily about creating extremely high-quality content (e.g., some of them appearing in the top academic conferences) to explain to potential users/investors why our approach is solving a problem that they were not able to solve in the past. 

For example, a typical human portfolio manager would be celebrating if they can deliver 1% or 2% of alpha or outperformance per year. We are starting to see statistical evidence that our solutions are beating the human managers, but the idea leading to such an outcome is old and proven. 

Chess-playing computers like AlphaGo beat human chess masters by smart sampling, as if the machine is playing every possible chess game to completion and working backward to figure out the next move with the highest probability of winning. This type of algorithm is generally classified under “dynamic programming.” We are doing something quite similar – e.g., by dividing the S&P 500 components into 2 buckets, the “buys” and “not buys,” one has to check a total of 1.6 times 10 to the power of 160 combinations, which may take weeks running on the world’s most powerful supercomputers. Our solution wins by reducing the running time to something more practical by making smart approximations and even down to a few seconds on a quantum computer.  

The key to our success in content marketing is to help our users and investors to visualize the scientific validity behind our “magic” without requiring each and every single one of them to have a strong background in science.

Who are your competitors? And how do you plan to stay in the game?

Dr. Bernard Lee: We compete with some of the largest asset managers with the technology infrastructure to perform these analytics on a very large scale. In theory, we should be worried about those large but agile asset management firms showing a good understanding of both technology and investments. At the same time, they have the resources and, more importantly, the brand name. Thus, we often take a collaborative approach to working with them.

The competition that we are worried the most about is the small but proven investment boutiques working with top universities on the cutting edge of R&D, just like we do with top academics from the likes of Imperial College London. The investment industry has always been about smaller players showing solid performance. Suddenly, all the institutional investors rush in to give them money. Overnight, they become the new masters of the universe. We do not see why things will be too different this time.

What other noteworthy activities is your company engaged in?

Dr. Bernard Lee: Besides the public markets, the company spends about half of its resources in private markets. 

Given the analytics platform’s success in the ESG space (which has been covered by Waters Technology), HedgeSPA was asked by one investor to set up an underwriting fund to invest in sustainability projects across Asia. Initially, we did look for promising green energy firms in Asia to invest in. Soon we found out that the number of credible company/projects were few and far between. Since I looked after the energy book at BlackRock and was consulting for the likes of Chevron-Texaco, the investor suggested that we build those capabilities ourselves, just like how BlackRock and its sister company Blackstone approach the problem.

We are, in fact, working on a green hydrogen project in Australia that is seeking support from both the Australian and German Governments, with committed buyers of the green hydrogen in Asia. We are working with Germany’s top applied R&D institute to deploy our AI engine to control the production processes to turn any asset-backed securities created from the buyer’s cashflows into digital assets and attach carbon credits to them. Eventually, our fintech platform also aims to support all digital asset classes available, starting with these digital green bonds.

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