The Alt data arms race is hotting up

It is widely recognised there are two trends gathering momentum in investing today. One is ESG and the other is the technology revolution of AI and ML: specifically the use of alternative data.

Alt data is changing the wider asset management universe. This is both in the way asset managers trade and execute and in how they recruit the technological expertise they need.

Today there is now more data than has been saved in the last two years than in all history.

The number of alternative-data providers is more than 20 times larger now than it was 30 years ago. There are now more than 400 currently active providers, compared to only 20 in 1990. This is according to a report by the Alternative Investment Management Association in collaboration with fintech company SS&C.

Today, around 50% of all investment firms use alternative data, according to AIMA and another recent survey by Bank of America. That number is predicted to grow, as more firms have invested in new technology during the pandemic.

Traditional structured data like quarterly earnings reports has always been useful for pricing and valuing stocks on a long-term basis. But the world is speeding up. Today, investors who need an edge want a shorter time frame.

So today they are practising more ‘nowcasting’ as opposed to forecasting, with the use of unstructured datasets.

This could be parsing what companies are not disclosing by scouring Google, Facebook or Reddit. It could be looking at what a company is posting on LinkedIn in terms of its hiring needs. It could be scouring the cookies on web browsers; credit card transactions; or drone and satellite data pinging the location of cell phones.

Alternative data can provide nuggets of insights around market analysis, deal origination, pre-due diligence opportunity and the qualification/disqualification process, and commercial due diligence.

But the real value of alt data, says Professor Keith Black, Managing Director at CAIA (Chartered Alternative Investment Analysts’) Association's Financial Data Professional Institute (FDP), is in data that is hard to get, process or that is proprietary.

“If you're able as an asset manager to come up with a data set that no one else is using, that’s likely to be quite lucrative," he says. "If you buy a data set that’s already processed that’s going to be less profitable. The value is in taking it warts and all and cleaning it yourself to build insights and models that are different to what other people are using.”

So asset managers, he says, are being pushed further into the 'wilderness' when finding alt data. But there’s definitely a first-comer advantage despite the challenges and costs of finding its hidden value to get an edge.

Historically, we have thought of investors as either fundamental (they are the ones who are talking to companies and following new product announcements etc) or as quantitative (they’re the ones looking at a large portfolio of stocks and applying statistics and factors to drive their returns).

Now, however, even ‘long’ investors tend to be quantamental. In other words they are quantifying fundamental data and adding it to their models.

And there are lots of new alt data sources coming through. Hot new sources being parsed include government statistics which can now inform you, for example, how many new Teslas were registered in your jurisdiction last quarter. Or product or drug safety recalls via government disclosures. Another rich source is the watching of DNS registration of new domain names to flag up new partnerships, such as that of Amazon and a new BNPL firm.

When it comes to ESG, alt data comes into play too. Companies often do not disclose enough data to give investors the ESG look at their operations they need. So they are looking to alternative sources to form a more informed ESG opinion on a given company.

It's now a huge arms race to find and process proprietary data sets that are lucrative. But legal and compliance teams are more important than ever for legal screening.

A strong reminder of the economic implications of data access happened in February with Facebook. Its stock fell 25% in one day when Apple increased the privacy setting on the iPhone.

Deciding what has been ethically harvested remains uncharted territory. The key regulation, however, is that of European GDPR. It prohibits disclosure of personally identifiable information without user permission.

"You should always decline to have any insight into personal identifiable information and always understand its provenance," says Professor Keith Black.

And ahead? The lines are becoming blurred between traditional data and alternative data. In the future, companies will likely be using both interchangeably under the term 'data'.

But however you frame it, one thing hasn't changed. Information is a competitive advantage...