Last Updated on 13 January, 2021 by Samuelsson

Quantitative trading has been quite popular among hedge funds and big trading firms, and it is now becoming increasingly popular among individual traders who have the necessary skills to implement this style of trading. But is quantitative trading profitable?

Yes, quantitative trading can be very profitable if you have the mathematical knowledge to create the right models, the programming skills to code your algorithms, and trading experience to effectively manage risk. However, most people fail in trading, irrespective of the trading approach. Trading, as it is presented in mainstream media sites, is wrong. Serious hard work and dedication are required to succeed in trading, even when you have all the necessary skills.

In this post, we will discuss the following:

  • What quantitative trading is
  • How it works
  • Why it can be profitable
  • What you need to make it profitable
  • Profitable quantitative trading strategies
  • The pros and cons of quantitative trading

What is quantitative trading?

Quantitative trading is a kind of trading approach that relies on complex mathematical and statistical models coded into computer algorithms that identify trading opportunities in a given financial market. These models are driven by quantitative analysis, which is an analysis that is based on numerical data alone without any input from qualitative factors. The analysis is performed by specifically developed computer algorithms built for that purpose, which, in most cases, also execute the trading edges when identified in the markets in real time. This trading approach is also referred to as quant trading.

An extremely sophisticated type of market strategy, quantitative trading uses different quantitative data points, such as price, volume, open interest, and others, to find potentially tradable opportunities in the markets. The analysis is based on research and quantitative measurement, which breaks down complex patterns that depict the market sentiment into numerical values that can be quantified. This process is completely different from qualitative analysis, which evaluates opportunities based on subjective factors like brand goodwill or management expertise and uses discretion to decide whether to buy a security or not.

Quantitative trading focuses on current and historical data. The two data points most commonly used in this analysis are price and volume, but any parameter that has a numerical value — or can be quantified in one way or another — can be incorporated into a strategy. Lots of publicly available databases can be used to mine data points for building mathematical models for quantitative trading, and these alternative data points identify patterns outside of the traditional financial sources. Social media, for example, can be a source of data for a trading model — a trader might build tools to monitor investor sentiment across social media.

Expectedly, quantitative trading is now popularly used, both at individual and institutional levels, for high frequency, algorithmic, arbitrage, and automated trading. However, it tends to require a lot of computational power, which is why it has always been exclusively used by large institutional investors and hedge funds. Fortunately, technological advancement, in recent times, has enabled an increasing number of individual traders with the appropriate skills to do it on their own.

How does quantitative trading work?

Quantitative trading works based on mathematical models, and these models use numerical values of whatever chosen data points to calculate the probability of a particular trading outcome. Unlike the traditional trading approaches technical indicators and price patterns or fundamental factors or a combination of technical and fundamental analysis to find tradable opportunities, quantitative trading relies solely on statistical methods coded into analytical algorithms.

In other words, quantitative analysis entails analyzing datasets, finding a new trading edge in the market, and then building a strategy around it. For example, if a quantitative analyst notices that a volume spike in Facebook stock is almost always followed by a huge price move, he/she may create an algorithm that scans for such pattern across the historical price and volume of Facebook. If the pattern has resulted in an upward move in 95% of the time in the past, then there is a 95% probability that when a similar pattern occurs in the future, the price will move upward.

Some quantitative traders may only create algorithms that identify trade setups and then manually execute the trades. This is only possible for strategies that generate low-frequency trades — swing trades. Some other quants may create algos that both identify trade setups and takes the trades — a kind of algorithmic trading.

However, note that quantitative trading is not synonymous with algorithmic trading. While algorithmic trading is any automated system that analyzes chart patterns (not necessarily quantitative analysis) and opens and closes positions on its own, quantitative trading use statistical methods to identify, but not necessarily execute, opportunities. Surely, they overlap each other, but they are two separate concepts that shouldn’t be confused.

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Some important distinctions between the two include:

  • Algorithmic systems are built to always execute trades on behalf of the trader, whereas quantitative systems use models to identify opportunities which may be executed manually
  • While quantitative trading uses advanced mathematical methods, many algorithmic trading tends to rely on more traditional technical analysis
  • Algorithmic trading only uses chart analysis and data from exchanges to find new positions, whereas quant traders use lots of different datasets
  • A fully automated quantitative trading may be seen as a type of algorithmic trading

Why quantitative trading can be profitable

Of course, quantitative trading can be very profitable; if it is not, hedge funds and big trading firms won’t be paying quantitative analysts heavily for their services. Most quantitative analysts earn high six figures, so to be able to command such pay, they must be making the firms a lot of money.

There are many reasons quantitative trading is a profitable approach to the market. Here are some of them:

  • No subjectivity: Quantitative trading uses mathematical models to spot profitable patterns in the market. The fact that numerical values and quantifiable data are used in identifying trade setups implies that there is no subjectivity in the analysis process. Apart from that, the statistical models used in the analysis have a measurable probability of a successful outcome. So, you only choose strategies that generate trades with a high probability of success.
  • Automated trading: Quantitative trading can easily be automated. This can be done by integrating an execution algorithm into the quantitative analysis program that scans the market for tradable setups. By making the entire process fully automated, you remove human bias, which can diminish the effectiveness of the method. In other words, automating the trading process can make it more profitable.
  • Round-the-clock trading: Another benefit that comes with a fully automated process is that the trader doesn’t get to miss any trade as the system trades round the clock. Round the clock trading is often achieved using a Virtual Private Server (VPS) that ensures constant connectivity to the market. Not missing a trade allows the trading edge of the strategy to play out well because every qualified statistic is a part of the sample.

What you need to make quantitative trading profitable

Given the right condition, quantitative trading can be profitable, but you must have the right skillset. Generally, the skills required to make the best out of quantitative trading include:

  • Quantitative trading skills
  • Personal skills

Quantitative trading skills and qualifications

To be a quantitative analyst and trader, you need to have the qualifications and skills required for this complex trading approach. These are some of them:

  • In-depth knowledge of mathematics: Quantitative trading requires the highest level of mathematics and computation skills needed for creating reliable models and testing them in a real-market environment. As a quantitative analyst, you should be able to structure a complex problem and create the right model for it. Basically, you need to have a good understanding of probability and statistics, calculus (including differential, integral, and stochastic), linear algebra, and differential equations. In addition, you must understand mathematical concepts and models in finance, such as the portfolio theory and the capital asset pricing model.
  • Programming skills: Coding skills are also important in quantitative analyses because it enables you to convert your mathematical models into computer algorithms that can scan the markets looking for the right patterns. Typically, many trading applications use C++, while offline statistical analysis is performed in MATLAB, SAS, S-PLUS, or a similar package. Some trading tools may be created with Java, .NET, or VBA. A serious quantitative trader must be good in all these languages.
  • Trading experience: You must have some trading experience to effectively implement a system that can work in a live market environment. Your trading experience will help you in managing risk and knowing the right way to optimally allocate to different strategies.
  • Educational qualifications: Finally, if you intend to hold a position as a quant in any trading firm or hedge fund, you must have the necessary qualifications. Most firms look for at least a master’s degree, or preferably a Ph.D., in mathematics, statistics, econometrics, financial engineering, or computational finance.

Personal skills

Irrespective of the trading approach — traditional or quantitative — success doesn’t come easy. It requires a lot of hard work and dedication, so you must have those personal skills. There may come a time you may want to give up, but having the strength of character to work harder may be what makes the difference.

Profitable quantitative trading strategies

Quantitative trading is only a trading form that requires complex mathematical models, but the types and nature of the models vary with the strategies targeted. There are many different strategies in quantitative trading, but the common ones are as follows:

Mean reversion

The mean-reversion strategy is very popular and is based on the financial concept that the price of any security has a long-term moving average, about which the price oscillates in the short term. So, when the price moves significantly away from that mean, it will likely revert to the mean. Using this strategy in quantitative trading will require the trader to create a model that determines the long-term mean and what constitutes a significant deviation from the mean — a significant deviation to the downside generates a long trade, while a significant deviation to the upside generates a short trade.

Trend following

This is also known as the momentum strategy, as it tries to exploit both investor sentiment and breakouts by trading in the trend direction and riding the momentum associated with the market trend. The idea is to spot a rising market and calculate the optimal corrections and surges, which the strategy targets.

Statistical arbitrage

Similar to the mean-reversion theory, the statistical arbitrage strategy compares a group of similar securities to find an outlier. The theory is that a group of similar stocks should perform similarly in the markets. Any stock in the group that outperforms or underperforms the average presents a trading opportunity in the opposite direction.

Algorithmic pattern recognition

This strategy tries to identify when a large institutional firm is going to make a large trade, giving you an opportunity to front-run them — place a trade in the same direction just before their orders come in so that you can ride the momentum generated by their huge orders. Then you sell it back at a profit.

Behavioral bias recognition

The idea behind this strategy is to identify and exploit the behavioral biases (loss aversion, for example) of retail traders. It includes stop hunting and bulls’ trap.

ETF rule trading

This strategy aims to profit when ETF managers have to buy a new stock that has just been added to a market index they are tracking. The idea is to front-run the ETF managers and later sell the stock back to them when they will be buying it at a higher price.

The pros and cons of quantitative trading

Some of the benefits of quantitative trading include the following:

  • It makes it possible to analyze potentially limitless data points across a large number of markets since it runs as an algo-trading system.
  • It reduces human bias in trading — rather than letting emotion dictate whether to keep a position open, quantitative trading uses a data-backed decision-making process.

Despite the benefits, there are some significant risks associated with quantitative trading, and they include the following:

  • A quantitative trading system is only as good as the person who developed it.
  • Since the financial markets are dynamic and unpredictable, a system that is making profits today may be a flop tomorrow.
  • Quantitative trading requires a high degree of mathematical experience, programming skills, and trading experience.


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