Artificial intelligence will stretch its tentacles across most parts of the investment process in the next few years, according to AMP Capital Investment Manager Global Equities Andy Gardner.
“It’s going to permeate many things we do,” Gardner shares after an AMP Capital Insights forum. When asked whether it could take over the role of some investors, he agrees: “Yes. Machines will also likely be more successful than humans at capturing short-term mispricings and will more efficiently replicate highly systematic and quantitative techniques.”
The 2017 version of HAL in 2001: Space Odyssey may not be quite so ambitious, though. Artificial intelligence is already being used to collect and track data and Gardner believes it will play a bigger role in quant. Not, he predicts, as the only investment decision maker.
“The good news for humans is that the majority of future company value is very difficult to reduce to a simple set of numbers,” Gardner says.
Having a deep understanding of a company’s intangible characteristics such as its competitive advantages, innovation capabilities, capital allocation, culture and technological competence is essential, according to Gardner. Also critical is a company’s attitude to innovation and governance in order to generate long-term wealth creation and avoid value destruction.
“AI will only ever be as useful as the usefulness of the question it is trying to solve,” says Gardner. “I believe that no matter how much information, data, machines and AI we have, good process will still be critical to deliver superior investment outcomes and a human is most likely to be an architect of that investment process.”
While artificial intelligence is still finding its role in investment firms, more established technology is creating a new set of issues for stockmarkets.
Exchange traded funds (ETFs), for example, are growing as a proportion of money invested in stocks and because they track indices or baskets of assets, the concern is that the fundamental characteristics of individual companies might be completely overlooked.
It’s a concern reflected in the views of AMP Capital’s Head of Investment strategy and Chief Economist Shane Oliver, who believes too much passive investment leads to market inefficiencies.
“There is always debate among economists about whether the market is efficient. If there are no active managers, the less efficient the market becomes,” Oliver says.
This trend started with Vanguard Group in the 70s. Its founder and investor of the index fund, John Bogle, is famous for stating “don’t look for the needle in the haystack. Just buy the haystack.”
Stellar performances by Vanguard over various points in time certainly added weight to Bogles case. Oliver says the growing importance of SMSF funds would be helping drive the move to ETFs.
“You can see there’s been a shift to passive,” says Oliver.
Microsoft Corp. is a case in point. While the US technology giant had portfolio ownership of 45.7 percent as of March 2017, ETF funds accounted for 16 percent of its ownership during that time, a huge leap from 1.8 percent in March 2014.
The increased market share of passive investors provides great opportunities for single sector level active managers who know what they are doing, says AMP Capital Head of Multi Asset Portfolio Management Debbie Alliston.
“If there is more money going into passive investments then the number of active managers is likely to reduce and therefore your chances of gaining some information advantage increases,” Alliston says.
Of course this idea of a rational market falls apart if most of the market becomes passive and no one is looking for value or over-pricing.
“It’s unclear what that level would be, but you would become concerned if passive investing was greater than 50 percent of a market,” says Alliston.
“Ultimately in the long term a stock’s share price is driven by its earnings.
“As long as there are some active managers in a market then if a company is expected to deliver stronger earnings (relative to the broader market in the short term) and does in the long term then active managers will buy that stock and push that stock price higher.”.