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Integrating alternative data into the investment process is the
future of portfolio management, yet the practice of identifying
valuable, non-traditional data sets is age old. Some call it
fundamental analysis, like interviewing customers about a company's
product. Others call it plain smarts, like using satellite imagery
to measure crop yields or revenue at the mall. For all the
attention it gets, alternative data remains remarkably undefined
— and that's ok. What qualifies as alternative data is not the
important question. The real question is how do you turn such
information into insight?
Technology, of course, is the key to finding insight and the
value of such insights in the investment process will only improve
as tools to aggregate and interpret data, especially unstructured
data, improve. Similarly, backtesting new datasets is becoming
faster and cheaper and is a critical component in validating the
value derived from any alternative data set.
The
Demystifying Alternative Data study by Greenwich Associates
found that 71% of asset managers believe that using alternative
data gives them an investing edge over competitors. Around half of
the investment managers surveyed by Greenwich are currently using
alternative data, with another quarter planning to do so within a
year. In short, alternative data is big and it's not going
away.
The survey found that the most commonly used forms of
alternative data include web-scraped data, social media sentiment,
web traffic and search trends. Certainly, there is a lot of value
in those areas. Our testing of our social media sentiment signal
shows significant alpha in analyzing Twitter activity.
Yet, web-sourced data are just the starting point on the
alternative data spectrum. Since this information is natively
digital, it's easier to aggregate, analyze and pipe into
algorithms. We are still in the early stages of a profound shift in
the types of data investment firms consume and how they consume
it.
<span/>The most
sophisticated asset managers are beginning to test more direct and
more granular indicators of supply and demand. Examples include
bills of lading data from cargo ships, energy production and
distribution,
automobile registrations, technology component cost, political
risk and ESG metrics. The list goes on and on.
There is no doubt this information is typically harder to
normalize and analyze, but it's definitely worth the effort.
According to Greenwich, 42% of all asset managers believe the alpha
edge they achieve by using alternative data lasts for at least four
years. That edge is probably even more pronounced for supply chain
metrics and our research shows that information like import volumes
have strong predictive power [add link to maritime case study].
At the same time, we should realize that many types of capital
markets data can be alternative to the equity investor. The CDS
market, for example, can be a leading indicator for equities
markets. Short squeezes are very clearly linked to movement in
equity. A strong ESG focus has also been correlated to a company's
stock outperformance. Ultimately, investors are likely to use a
combination of alternative data factors and even blend prepackaged
models with proprietary analytics.
When it comes to alternative data, it is important to understand
that data alone are not the answer for most firms. 83% of asset
managers in the Greenwich survey want some assistance in
understanding alternative data, ingesting it and processing it. We
believe a collaborative service model is essential to bring the
benefits of alternative data to the majority of investors. Of
course, the big quants have the horsepower to find hidden value in
the raw data, but most firms need supplemental expertise —and
we have experts at IHS Markit who can help. We can consult with
firms about our data sources, methodologies and prepackaged
analytics for a growing number of alternative data factors. We also
have a growing, world class data science team that partners with
clients to design and test advanced data models.
Making it easy for firms to access alternative data spanning the
real economy and the derived economy was a major driver of the
merger between IHS and Markit in 2016. Not only is the firm unique
for the scope of information we can provide (we are sitting on 25
petabytes of data at our last count), but very few can see the
world through a lens like ours. We are an information company at
our core. We understand the nuances of ingesting data, packaging
data for customers and deriving new insights from multiple data
sources.
What is alternative data? The better question might be what
isn't alternative data? Don't be bound by where the crowd is
focusing—imagery, web data, geo location and credit card
transactions. Those are important, but a more interesting
challenge, and perhaps a greater source of alpha, is out there for
people and firms that are willing to look beyond the herd. Be
creative and get excited. Engage with your data partners. If you
have a hypothesis, there's a high likelihood the data exist and
experts are there to help you test and discover new relationships
between supply, demand, price and profit.
Posted 13 September 2019 by Ed Chidsey, Partner - Global Head of Pricing, Valuations and Reference Data, IHS Markit
IHS Markit provides industry-leading data, software and technology platforms and managed services to tackle some of the most difficult challenges in financial markets. We help our customers better understand complicated markets, reduce risk, operate more efficiently and comply with financial regulation.
