Rentec's Returns

Renaissance Technologies’ Medallion fund is, undoubtedly, the most successful hedge fund in history. The WSJ’s Greg Zuckerman estimates that Medallion has returned 66% a year since 1998 (before fees). That’s … basically insane.

Like all hedge funds, Rentec is pretty secretive about what it does. But there are smart people at Two Sigma and D E Shaw and Winton as well. How come they don’t generate the same returns? What’s Rentec doing that they don’t?

The source of Rentec’s returns is one of the great unsolved mysteries of modern quant finance.

I know multiple well-informed, highly-experienced market professionals, not generally given to exaggeration, who, when asked about Rentec, shrug and say “that’s Rentec, they’re like nobody else, it’s just magic”.

Others, less sophisticated or maybe just less circumspect, are happy to indulge in fevered speculation: from insider trading to market manipulation to breakthroughs in artifical intelligence or cryptography or linguistics.

What’s interesting is that you don’t need to invoke any of these! And that leads to a curious thread on how markets attain efficiency.

Consider this sequence of events:

To external observers, the mispricing never arises. Nobody even sees the opportunity; they all think “oh, that (slice of the) market is already efficient”. Back-testing on this opportunity reveals no alpha to be captured. Everybody moves on.

Meanwhile Rentec harvests consistent returns year after year, on trades that nobody else would ever think to do. The only catch is that there’s a limit to how much money they can make – but they’re okay with that.

All you need for this equilibrium to hold is for Rentec to have been in business longer than most (true), with historical data deeper than most (true), execution that’s faster than most (true), and a willingness to cap their AUM at the size of the opportunity (true).

Everybody thinks Rentec is unfathomable voodoo. But what you see is precisely what you’d expect if they were just a little bit smarter, just a little bit earlier, than everyone else in quant finance.