With the world's most mysterious, and profitable, quant fund - Renaissance Technologies - recently finding itself in an unfamiliar place: under the harsh public spotlight, and worse - in the context of its co-CEO Robert Mercer's questionable political support of Donald Trump - we wondered one month ago how long before regulators start sniffing around to uncover the "secret sauce" that has generated some $60 billion in profits for LPs of the giant money-making machine. The answer: a few weeks.
According to the NY Post, regulators from the Commodity Futures Trading Commission are probing the "secret trading code" at RenTec run by Democrat, and Hillary Clinton supporter, James Simons and Republican and Trump's most influential financial backer, Robert Mercer.
The CFTC has reportedly asked to dig into the trading software at the $65 billion hedge fund, "James Rowan, the fund’s chief operating officer, told an audience of hedge fund managers on Tuesday in New York, according to two people who were in the audience." But, like every other secretive quant fund, RenTec is pushing back against the CFTC’s request out of fear that the code will “leak,” Rowan told the managers, according to those present.
Jonathan Hitchon, chief operating officer of quantitative hedge fund Two Sigma, which manages an estimated $40 billion, was also on the panel echoing Rowan’s concerns. Hitchon is on the board of the Managed Funds Association, which called out the CFTC for “overreaching in its authority” in a letter sent last month.
The push by the CFTC to expose the trading code of the world's most popular quant fund comes as a time when investors are increasingly on edge about the threat of passive investing in a one-way market, with lingering questions about what might happen if all the quants start selling at the same time.
The pushback by Simons’ firm is the latest sign that the government is plowing into so-called “quant funds,” which use highly technical trading algorithms to try to beat the market. It is a growing area in the hedge fund space as more hedge funds, including Steve Cohen’s Point72, are increasingly hiring more developers to build algorithms.
These algorithms are often black boxes, and are so complicated that it would be nearly impossible to figure out what they’re designed to do, or why they do it.
As long-time readers will recall, back in 2009 Zero Hedge led a brief campaign seeking to unveil the mystery inside either Medallion or RIEF B, which however failed to penetrate RenTec's unbreakable armor. Now it is the CFTC's turn: "regulators are concerned there could be an illegal trading practice, like creating fake orders to move the prices of illiquid stocks, which is known as spoofing."
To be sure, it's not just RenTec that is on edge. The post notes that last year the CFTC "first outlined the regulations that would allow it to scrutinize hedge funds’ algorithms. Other major funds, like Citadel and Two Sigma, slammed the proposal, saying that sharing the code made it more likely it could fall into the wrong hands."
Even the CFTC admitted last year that there are problems with its plan to require quant funds to share code.
“This requirement has garnered an enormous amount of attention from market participants concerned with the prospect of handing over highly valuable, proprietary business source code to an agency of the US government that has an imperfect record as a guardian of confidential information,” CFTC Commissioner Christopher Giancarlo said in September.
Meanwhile, despite its pushback, Renaissance is complying with the CFTC’s request for the code, "and is exploring ways it can share the code in a secure setting but not have it left sitting on a CFTC file where it could be vulnerable to hacking and being leaked, Rowan said."
The problem, as RenTec and traders know, is that once the "black box" ends up in the hands of regulators, it is as good as public. Which is why in 2009, Goldman went ballistic when Sergey Aleynikov allegedly stole the bank's quant trading code, and was promptly arrested and spent time in prison, even though he has twice acquitted of the charge, though he’s still facing charges on an appeal. That code was Goldman’s “secret sauce,” New York District Attorney Cyrus Vance Jr. charged in 2012.
Whether or not RenTec's most valuable asset leaks in the public, here, for those interests, is the public breakdown of RenTec's top equity positions as of March 31.