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Spotlight-blackInnovations in Trading and Technology (more stories)

21 December 2010

Hedge Funds Seeking Differentiation Look to Event Data

Facing pressure from investors for better performance, hedge funds are turning to events and event data as a new way to generate alpha.

Even as the state of the global economy seems to be improving, the $1.5 trillion hedge fund industry is still in many ways trying to find its footing. Facing pressure from investors for better performance, hedge funds are turning to events and event data as a new way to generate alpha. According to the Hennessee Group, hedge funds that have event driven strategies (i.e. they are dependent on an "event" as the catalyst to release the position's intrinsic value) have the highest YTD performance (9.54%) 1.5% higher than any other strategy listed. Event data can be defined as highly structured factual information related to breaking events that trading firms can use to make reliable, real-time programmatic decisions. This form of information is structured and distributed more like market data than other forms of textual real-time information, such as news or even machine-readable news.

While two years ago investing in low latency was a clear path to generating returns, for hedge funds, that low latency arbitrage opportunity is slowly slipping away. Now speed by itself has become a commodity and the strategy of simply being faster is significantly more competitive. Over the past nine months, I have seen hedge funds increasingly using event data such as breaking corporate data in their strategies to bolster their arsenal of event-based trading strategies. Once exclusively employed by high-frequency proprietary trading (HTF) firms, real-time earnings data allows fund managers to take advantage of news as it gets released, resulting in the immediate ability to exploit price movements generated by a company’s earnings results. Driven in part by the general electronification of the capital markets and deeper liquidity outside of normal trading hours, hedge funds now have the technology, market access and sophistication to take advantage of these types of news announcements. In fact, according to a recent Automated Trader survey, 21% of trading firms said they are now using news and event data feeds — and I expect that number is set to grow even higher in the coming years.

New Entrants Seek Differentiation

It seems times of crisis act as a catalyst for entrepreneurial investment managers to start their own funds. Recent regulatory changes and the global economic downturn have contributed to increased growth in asset management startups. With new hedge funds constantly entering the fray, firms are looking for ways to outperform the competition and incorporating event data into their business plans as a differentiator that can garner interest from investors.

I am seeing an influx of hedge fund clients who are using event data to differentiate their trading strategies. For example, we have a large HFT firm as a client that has created a separate segment of their events-driven trading desk to focus on corporate announcements and events. Using earnings data to alter their strategies in accordance with news releases lets hedge fund managers create unique and sophisticated trading models, designed to seek out alpha and generate revenue, while reducing event-based risk.

Focus on Technology

Although there is no size requirement for hedge funds that want to take advantage of event data in their trading strategies, a focus on technology is a must. Most financial firms differentiate themselves based on the speed and sophistication of their technology. In today’s low-latency world, hedge funds large and small are spending on software and hardware infrastructure. In fact, when budgets were slashed in the past two years, technology spending didn’t slow in key areas like low latency and differentiated content. Firms would rather cut budget elsewhere by decreasing headcount and redundancies like we saw in 2009 and 2010, than risk being left behind in technology innovation.

Hedge funds that rely on technology to generate alpha and want to use event data need to follow some basic principles. For example, they should have a flexible low-latency feed handler infrastructure capable of ingesting real-time factors outside market data, solid pre-trade event analytics & data, a low-latency execution management system (EMS) and direct, low-latency access to execution venues.

Several factors — including the global economic downturn, commoditization of low latency, and growing sophistication of asset management firms — have contributed to the trend of hedge funds using event data in their trading strategies. As investors continue to demand a better return on their money, fund managers are forced to employ unique approaches to stay competitive, differentiate themselves and ultimately achieve better performance.  The use of real-time event data is part of that approach.

Spotlight-white-trans For more stories in the Innovations in Trading and Technology Spotlight Series click here.

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1 Comment to "Hedge Funds Seeking Differentiation Look to Event Data ":
  • Comment_me_1
    louislovas

    23 December 2010

    A key aspect of using 'event' data as this article describes as non-market data is the ability to take advantage of it in trading strategies and then of course backtest those strategies. In order to do that you need a platform with the ability to support complex analytical models, handle structured data (prices), loosely structured data (news, corporate announcements & earnings reports) and unstructured data. From a strategy modeling viewpoint, a goal is to be able to leverage all this 'event' data without getting stuck in a technology quadmire. Which is exactly what will happen if firms try to piece this all together themselves. There are platforms in the market that do provide the seamless integration of all these streams of market and 'event' data, in real-time and historical for the creation of next-generation strategies.

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