It might sound esoteric, but alternative data has very much hit the mainstream and has become one of the most important factors in hedge fund performance in the last decade. Consider, for instance, Tiger Global Management—a “classic” hedge fund with a traditional pedigree (its founder was seeded by Julian Robertson, the founder of the first hedge fund), which has seen its assets under management explode to over $95 billion in the last decade, when it just had a handful of billions to run. Much of that is thanks to massive returns based on aggressive tech investing at home and abroad—and a well known secret on Wall Street is that alternative data is a primary driver of that performance.
They aren’t alone. Throughout the hedge fund world, investment in alternative data has ballooned over the last decade, with spend on this bit of research rising 20%-30% per year, hitting $3 billion in 2017. There is obviously a lot of money in this stuff, whether you’re a fund looking to leverage it to boost your own returns or an alternative data merchant looking to collect and sell the data to those funds.
But what is alternative data, actually?
To answer that, let’s first address what it is an alternative to. Historically, the data used by financiers to make investment decisions or give advice on those decisions was based on fundamental data—things like a company’s profit margin, the total size of a market, or more qualitative things like how trends are moving towards one or another market. Grounded in the kind of traditional financial and economic backbone of the industry that makes up the CFA curriculum, traditional financial data is the basic toolset of a banker, investor, or analyst.
Alternative data exists as a layer on top of that, providing insights into things that traditional data does not cover. This could be anything from counting tanker ships in the oceans and tracking their movements to get insights into oil consumption to tracking website traffic to an ecommerce company’s portal to see if it is growing or not (and by how much). Everything from internet traffic to satellite images to obscure government records are parts of this space—and this data, as you can imagine, is as massive as it is difficult to collate.
This is where the alternative data industry resides. By collecting this data through novel means, a firm can add value and thus sell its data to a hedge fund. Similarly, by analyzing this data through novel means, a firm can add even more value, selling its data at a higher price. Thus there are two ways to make money with alternative data: collect it or organize it. The best, of course, is to do both.
Does alternative data provide an edge? Answering that definitively is not easy, but it is obvious that the industry believes it may—or, at the very least, lacking that data will result in falling behind the median investor. Thus alternative data merchants have an arms race driving demand for their products, which means they are only going to see more and more business for as long as the arms race lasts.
How can you get into this sector? As it is a very wide and diverse group of companies, it might make more sense to start at the question of what you are analyzing and what questions you want answered. The data used to predict moves in Facebook (FB) will vary significantly from that used to predict moves in oil futures. Understanding what data needs to be collected is crucial; then you can go about finding ways to collect it and analyze it (and, of course, see who is already working in this space).
With the world producing more and more data at a massive rate of growth every year, there will be more and more opportunities in the alternative data space in the years to come. And you might find this a much more remunerative and satisfying path to finance than the more conventional path through the big investment banks.
