Quantitative management uses computers to observe historical relationships and incorporate them to create models for stock selection. The obvious benefit is the simplicity of using a model once it is established.
Quantitative Management Approach
Quantitative management makes use of computers and mathematical techniques to sift through financial statistics to select stocks.
Managers observe historical quantitative relationships and incorporate these relationships into “models,” which help them choose their stocks.
Using a computer to sift through historical data on companies is called “screening.” A quantitative manager might prepare a program to screen 2,000 stocks according to a particular set of characteristics or parameters.
For example, the manager might establish that, historically, stocks with low price-to-earnings ratios and high growth rates of earnings over two years outperformed the market for the next year.
This historical observation of performance is called “back testing” of a model.
Based on the strength or “robustness” of this relationship, she would then select stocks that currently met these “criteria” or tests. This can also be used to reduce the number of stocks that could be potential investments. While sometimes quantitative management will rely on this method for their stock picking, other managers will just use this method as their initial screen to reduce the number of stocks to be considered for an investment.
The obvious benefit is the simplicity of using a model once it is established. The hard part is creating the model, given the constant changing landscape of the investment markets. In quantitative management, crafting the right model requires a level of adaptability that becomes hard to account for in a model without introducing too many variables.