CAN ARTIFICIAL INTELLIGENCE DISRUPT FUNDAMENTAL INVESTING?

Each one of you reading this blog would be knowing about fundamental analysis and its importance in stock picking and would have also heard about Artificial Intelligence(AI) but what actually AI is? Will it just replace fundamental analysis or act as a complimentary tool? In the investor community there are lot of apprehensions whether Artificial Intelligence will just take over human intelligence. So let’s start with what actually AI is:

 INTRODUCTION TO ARTIFICIAL INTELLIGENCE:

ARTIFICIAL INTELLIGENCE(AI) is the ability of computer program or a machine to think and learn. It could also be defined as a field which makes computers smart. In simple terms we can say AI is a machine which mimics human intelligence in an altogether different way than humans do.

Situation 1: Suppose you are going to Airport for catching your flight. Once you have entered in the flight, you are asked to turn on flight mode of your phone. What you do? You take out your phone and turn on the flight mode manually.

Situation 2: You went to airport. As you reached the terminal, the GPS of your phone detects your location and understands that you are about to catch your flight in next 25–30 minutes. Your phone turns the flight mode automatically after that specific time intervals and you did not have to care about it.

The difference between above two situations is Human Intelligence & Machine Intelligence. There can be infinite such examples where Machine behaves smartly like humans. This is Artificial Intelligence. In simple words, it is the capability of a machine to imitate intelligent human behavior.

Most commonly used terms in AI:

1.Machine learning

2.Big Data

3.Nueral networks

4.Natural Language Processing

Can AI disrupt fundamental investing?

That’s the latest question grappling with the rise of passive strategies and the hype created around that AI could completely distrupt fundamental investing.

Fundamental investing the oldest and the most effective technique to discover a stock and deep dive into it to gather a conclusion, whether the stock would be a good pick. But due to changing times and enormus amount of data now available for investors to access.it becomes an important part of the process to start managing the data quite efficiently and to look for that data only which is relevant for us. The application of AI has been on trend and the question arises:

Can AI disrupt fundamental investing?

AI has its own advantages and fundamental investing has its own. Fundamental stock picking is facing difficult times because AI has been implemented by many companies and it gives out a conclusion very quickly, whereas fundamental investing takes time to draw out conclusions because it not only looks for quantitative stuff but also important qualitative stuff which is the most important aspect of the process.

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There are many doubts being raised around implementation of AI whether it would completely disrupt fundamental investing or how would it play out.

There are many funds which are now completely dependent on AI i.e the data is extracted on some of the set filters and output is provided according to that.

One advantage of AI is that it could remove inefficiencies from the market as any info important for a particular stock would immediately be reflected in the prices. The AI could draw inferences only from large data sets, here comes its implication there is large amount of data which is nowhere related to the company’s prospects but due to the algorithm assigned to AI it will extract this info and consider it for the providing its decision on a particular stock.

On the other hand, humans could even draw inferences from the small data sets which are very critical for the company’s operations. While analyzing a stock only quantitative facts are not enough because there are other factors like management, sentiments, management comments and its impacts.so for taking into consideration all these factors it becomes very important for a human analyst to intervene and do his job.

Ways in which AI operate (Where is AI faster than Humans?):

1.Discovering patterns: Incredibly powerful computers are able to crunch a huge amount of data in minutes. These supercomputers are also able to detect historical and replicating patterns between the data points and draw observations from them.

2.Predictive Trading Based on sentiments: By analyzing news, headlines, social media posts, blogs AI can predict the direction of stocks and moves of other traders via sentiment analyses.

3.Speed in Trading: This technology adds even more speed in trading every milli seconds counts.AI automates the trading.

Case against AI?

The first and arguably the greatest challenge to the expectation of AI replacing fundamental investing is inherent in the very nature of AI. As previously mentioned AI simply classifies data, but it cannot draw insights from it and could not classify the data that could be applied in other category. It cannot exactly relate with the context it may recognize patterns but many of these patterns may be meaningless.

In addition, machines cannot understand human emotions and situations and would therefore work only on logic and established patterns which is not how people react.

If extracting data would be considered most important in investing, then data scientists and quants operators would be the richest in the investing universe but the story is altogether different. This again depicts that just data is not important in investing rather drawing meaningful insights from it is an equally important part. Although there are various applications of AI like machine learning, natural language processing, neural networks which takes into account qualitative aspects as well.

The price of anything is decided by the sentiments of people. People are not perfect! They undervalue valuable things and overvalue useless things.

The most necessary step in fundamental investing is to make assumptions and make certain scenarios and see how would the company perform in the given scenarios, and these made are with the help of human analyst and to choose the best possible outcome.

For eg: If the company announces that its CEO is going to retire and the new CEO would be taking over, so in this case human intelligence comes into picture to guage the effect whether the new CEO taking over would be able to effectively run the company or not by taking into account the previous experience, educational qualifications, history etc.

Case in favour of AI

There are obviously advantages of AI as well because in the investing universe the analyst need to deal with large amount of data sets and sometime it becomes a very mundane task on the part of the analyst like updating quarterly results, performance evaluation all these things could be easily be done by AI and it also saves lot of time on the part of the analyst and has proved to be a cost effective process.

There is an amazing stat: According to HFR, Inc., “quant” funds manage $932 billion globally. That’s a big increase compared to 10 years ago, but it’s only 1.3% of the total investable global equity market ($72 trillion) and around 1.2% of the total value of stocks traded, $77.6 trillion (source: The World Bank). This doesn’t include derivatives, FX or fixed income markets.

So, while quant hedge funds oversee 1.3% of global equity capital, human beings still oversee the remaining 98.7% (that is: mutual funds, sovereign and pension funds, corporate insiders and retail investors).

Conclusion:

We can say that AI would not completely disrupt fundamental investing but they would be co- existing. In other words, AI could help improve the performance of the analyst which would otherwise would be very difficult for an analyst to extract huge amount of data and draw inferences from them.

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