New Kids on the Block

Abstract

The evolution of quantitative methods in finance is changing the investment management industry. With an altered focus in finance and investment theory, theoretical concepts such as market efficiency and market equilibrium have ceded ground to econometric methods that allow a more pragmatic investigation of asset predictability. Mean-variance optimization, one of the cornerstones of classic finance theory, presents some problems in practice, and recent developments in Bayesian modeling and robust optimization techniques circumvent some of its weaknesses. Beyond the classic framework, we must model the feedback mechanisms that we know to operate in financial markets, with caution as to model risk, data snooping, and overfitting biases.