Book recommendation: The Man Who Solved the Market

A new book by Gregory Zuckerman sheds some light on the most sophisticated quantitative trading firm in the world.

Jim Simons has lead his Medallion fund to an average annual gross return of 66% (39% net of fees), which vastly surpasses any other 30-year track record. For comparison, the long-term returns of Warren Buffett’s Berkshire Hathaway and George Soros’ Quantum Fund are around 20%. Medallion’s record is a testament to the superiority of a purely scientific approach to asset management, as opposed to methods that rely on human intuition.

“The approach is scientific,” Simons says. “We use very rigorous statistical approaches to determine what we think is underlying.”

This approach overcomes emotional and cognitive bias, ensuring that all decisions are as close to statistically optimal as the firm’s vast understanding of markets will allow. Medallion has uncovered market anomalies that are unknown to other market participants and has refined processes for exploiting them. In contrast, my newsletter only scratches the surface of exploitable anomalies, yet it shows how even the most widely understood factors can be profitably harnessed by elementary formulas. Medallion shows what becomes possible when a firm trades a multitude of generally uncorrelated anomalies across a very wide set of asset classes (and levers up the resulting 4.0+ Sharpe ratio).

Renaissance is aware of more of the forces that matter, along with the overlooked mathematical relationships that affect stock prices and other investments, than most anyone else. It’s a bit like how bees see a broad spectrum of colors in flowers, a rainbow that humans are oblivious to when staring at the same flora...

During his time helping to run the Medallion fund, Elwyn Berlekamp came to view the narratives that most investors latch on to to explain price moves as quaint, even dangerous, because they breed misplaced confidence that an investment can be adequately understood and its futures divined. If it was up to Berlekamp, stocks would have numbers attached to them, not names.

“I don’t deny that earnings reports and other business news surely move markets,” Berlekamp says. “The problem is that so many investors focus so much on these types of news that nearly all of their results cluster very near their average.”

As humbling as it was to read about the true masters of quantitative investing, it was refreshing to learn that even Jim Simons is susceptible to emotions and narrative thinking, at least when it comes to the funds he keeps outside of Medallion for his family and foundations. An anecdote from December 2018 sees Simons unable to relax in Beverly Hills as the S&P is down nearly 20%. He calls his family’s investment manager to ask his opinion on whether it’s a good time to sell short. As though this were an investment advisor talking a dentist client out of a hasty decision, the manager suggested taking a wait-and-see approach until the market calmed down. Simons acquiesced, and the market soon rebounded. I’m sure the irony was not lost on either of them.