Best Quant Mutual Funds in India: Pros and Cons of Investing in Them

Algorithms like Machine Learning and Artificial Intelligence have become global buzzwords, influencing almost every industry and altering our perception of the human-machine interface in the country. However, considering the use of these machine interactive languages in a market like mutual funds, which is primarily reliant on human judgments, almost seems exaggerated. But today, AI and machine learning are now being used in the mutual fund sector in the form of Quant Funds.

The Indian capital market was predominantly controlled by active investing over the last several decades, with the fund manager's ability to find top-performing equities as well as the proper sectors being highly coveted. However, as these institutional investors have struggled to outperform benchmarks in recent years, Quant Funds have recently grown in popularity in India. Advocates of these quantitative funds claim that employing inputs and computer algorithms to choose assets helps fund companies reduce the risks and costs related to human fund management. So, let us explore what Quant Funds are, how they work, and if you should invest in them. 

What are Quant Funds?

Quant funds are analogous to semi-active and semi-passive investing. Even though it is governed by an algorithm, all ultimate investing decisions are made by the fund manager. This path of action is however determined by a set of norms and investing regulations. The established norms and regulations are based on mathematical and statistical methodologies that use automated algorithms. This entails the risk of arbitrary decisions. 

What is Quantitative Investing? 

The algorithm in these funds generates a templated portfolio, often called a quantitative fund model portfolio, as an output. A quant model also includes algorithms and actions to be followed. The fund manager then duplicates the model portfolio on a regular basis i.e. monthly or quarterly by making the necessary modifications to the portfolio. This is referred to as Quantitative Investing.

What Led to the Emergence of Quant Funds?

Big data technologies and simple access to a diverse range of market information have contributed to the remarkable popularity of quant-based funds in recent years. Even when confronted with a large amount of quantitative data, they remain efficient and accurate.

Paradigm developments in technical innovation, particularly automation, also had a significant impact on the emergence of quant funds by increasing the volume of information on which they are able to operate. It enabled them to obtain enough feeds to adequately examine possibilities and susceptibility. To boost their odds of outperforming the market, quants use proprietary models.

Features of Quant Funds

1. Scalability: Because these are built in a lab environment and often released after extensive testing and development, they are also quite scalable. Typically, the design is based on a certain market and is created to scale the business.
2. Predictable Outcomes: The results are often predictable since the quant fund strategy follows a defined methodology and approach. Unlike typical mutual funds, such funds are not reliant on the fund manager's market outlook and aren't based on human judgments.
3. Previous Data Analysis: These Quant Fund models are made on historical data and mathematical models that have been proven throughout time. As a result, any market disturbance or unanticipated variable movement may lead them to behave differently. In such cases, it may have unfavorable and unforeseen effects. 
4. The Black Box Method: Fund managers of these funds are very protective of their strategies, and they rarely divulge their design or operation. When opposed to normal funds, quant funds lack transparency since they are frequently shrouded in obscurity.
5. There are No Human Prejudices - The approach and outcomes tend to be fairly objective. As a result, they are not prone to behavioral biases.

Who Should Invest In Quant Funds? 

Quant funds are appropriate for investors who want to hold their investments for an extended period of time. This is due to the proposed technique may take considerable time to fully reap the rewards. As a result, investors seeking to book profits while markets are favorable may avoid quant funds.

Furthermore, investors believe that these funds will readily provide significant returns. They do not, however, guarantee any refunds. Minimizing human biases does not guarantee the fund's success. Such funds are based on previous performance and other criteria, which are not accurate predictors of future outcomes. As a result, investors interested in quant funds need to comprehend the level of mathematics and programming involved in such funds.

Types of Quant Investing

Quant funds are classed based on the model's quantitative components or statistical metrics. In India, quant funds use either ‘single factor' or 'multi factor' models. These models are intended to narrow the investment universe of the fund to something like a model portfolio depending on these variables.

What is a Single Factor Quant Model?

In India, it is the most often used quantitative approach. They are generally constructed around these components and represented as ratios such as P/E, P/B, and so on. They evaluate the quality as well, using ROE and ROCE. They also study statistical phenomena like volatility using standard deviation or beta.

These variables differ from one firm to the next. As a result, the final model portfolio will only include top firms. These businesses are ranked and chosen based on one of the aforementioned criteria.

What is a Multi-Factor Quant Model?

Multifactor models express the yield on an investment in terms of the asset's risk in relation to a collection of factors. In general, such models incorporate systematic elements that describe the average returns of a significant number of volatile assets.

Asset owners, investment firms, investment consultants, and financial analysts employ multifactor models for a range of portfolio design, asset management, risk assessment, and general analytical objectives. Multifactor models, as compared to single-factor model types, which are often centered on the market-risk factor, provide more descriptive flexibility and power.

Pros and Cons of Investing in Quant Funds

Following are the advantages of investing in Quant Funds:

• These funds include minimum human intervention and are therefore based on impersonal decision-making. In addition, there is a smaller possibility of mistakes compared with conventional investment.
• As it adheres to a defined investing plan regardless of the volatile market conditions, there is stronger risk control.
• Because of its reliable and passive investing method, this fund is a budget-friendly choice with low management costs.

Following are the disadvantages of investing in Quant Funds:

• Quantitative models only choose stocks based on predetermined parameters. A high-potential stock will be disregarded by the model if it does not satisfy this criterion.
• These investments are based on past results and previous results. Additionally, some models fail to take unforeseen events into account. Consequently, these funds cannot ensure a profit.
• Quantitative funds that claim to be bear-proof or that use short-term strategies can be dangerous. It might be dangerous to use derivatives and leverage in downturn forecasting. 

Best Quant Mutual Funds in India

The following table represents some of the best Quant Funds that are currently trending in India. Please note that the provided information has been updated till September 2022 and are subject to changes due to market fluctuations.
 

Because of the fund's investing philosophy, quant funds are appropriate for long-term investors. It entails a data-driven, methodical strategy that enables objective decision-making. Furthermore, the strategy of these funds may take time to bear fruit. As a result, investors may add these funds to their mutual fund portfolio to diversify it.

With all of the dangers and unpredictability that Quant investing entails, impartiality, reasonable transparency, and decreased costs make for a compelling case. As a result, if you are an investor with a high-risk tolerance and a solid grasp of markets, including this field, you should only undertake quant investing with a lengthy investment horizon commitment.