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UPDATE: Front Running S&P 500 Index Funds

James Christopher

posted Jul 27, 2015

Finance News Show Q

After my first post about Front Running S&P 500 Index Funds I got a lot of awesome feedback on ways that I could improve it. Below are a couple things I tried to address:

What is with that huge jump in the 2007-2008 backtest?
Look ahead bias
Poor trade execution
Inconsistency in the data

In response I've cleaned up the data, dialed down trade execution (see the notebook for a further explanation), and I included plots of the gross leverage to help explain some of the larger jumps. I did however leave the actual strategy and portfolio balancing mechanism the same so the results to the first post can still be comparable.

Here is the new data file.

ORIGINAL POST

I read "The Hugely Profitable, Wholly Legal Way to Game the Stock Market" by Yuji Nakamura of Bloomberg and decided to try my hand at a quick and dirty version of the strategy/phenomna presented in the article: front running index funds.

Recent trends in investing are showing a huge influx in the amount of money people are investing in index funds. Attracted by their passive management style, and consequently low fees, investors look to index funds as a source of consistent performance that neither beats nor comes up short relative to the market.

For example take the S&P 500.

The S&P 500 effect on the price of companies is nothing new and neither is front running. While "front running" is generally considered illegal, the strategy of buying stock in a company who is about to be added to the S&P 500 or any index is not. Naturally, index funds track the underlying assets of their indices, so when a new security is added there is a large influx of buy orders from funds trying to fulfill their mandate. This wave of orders raises the price of the security, and potentially yields profit for the savvy investor.

To delve into this further we need data on the index changes

We looked to our friends at EventVestor and they provided us a sample of data containing index addition and deletion events for the last 8 years (2007-present).

You will need to upload the data above into the new Quantopian Research platform to fully interact with this notebook.

You can request your own sample data from EventVestor.

I'll explore this strategy and see how it changes over different time periods.

Disclaimer

The material on this website is provided for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation or endorsement for any security or strategy, nor does it constitute an offer to provide investment advisory services by Quantopian. In addition, the material offers no opinion with respect to the suitability of any security or specific investment. No information contained herein should be regarded as a suggestion to engage in or refrain from any investment-related course of action as none of Quantopian nor any of its affiliates is undertaking to provide investment advice, act as an adviser to any plan or entity subject to the Employee Retirement Income Security Act of 1974, as amended, individual retirement account or individual retirement annuity, or give advice in a fiduciary capacity with respect to the materials presented herein. If you are an individual retirement or other investor, contact your financial advisor or other fiduciary unrelated to Quantopian about whether any given investment idea, strategy, product or service described herein may be appropriate for your circumstances. All investments involve risk, including loss of principal. Quantopian makes no guarantees as to the accuracy or completeness of the views expressed in the website. The views are subject to change, and may have become unreliable for various reasons, including changes in market conditions or economic circumstances.

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The material on this website is provided for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation or endorsement for any security or strategy, nor does it constitute an offer to provide investment advisory services by Quantopian.

In addition, the material offers no opinion with respect to the suitability of any security or specific investment. No information contained herein should be regarded as a suggestion to engage in or refrain from any investment-related course of action as none of Quantopian nor any of its affiliates is undertaking to provide investment advice, act as an adviser to any plan or entity subject to the Employee Retirement Income Security Act of 1974, as amended, individual retirement account or individual retirement annuity, or give advice in a fiduciary capacity with respect to the materials presented herein. If you are an individual retirement or other investor, contact your financial advisor or other fiduciary unrelated to Quantopian about whether any given investment idea, strategy, product or service described herein may be appropriate for your circumstances. All investments involve risk, including loss of principal. Quantopian makes no guarantees as to the accuracy or completeness of the views expressed in the website. The views are subject to change, and may have become unreliable for various reasons, including changes in market conditions or economic circumstances.

About Quantopian

The material on this website is provided for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation or endorsement for any security or strategy, nor does it constitute an offer to provide investment advisory services by Quantopian.

In addition, the material offers no opinion with respect to the suitability of any security or specific investment. No information contained herein should be regarded as a suggestion to engage in or refrain from any investment-related course of action as none of Quantopian nor any of its affiliates is undertaking to provide investment advice, act as an adviser to any plan or entity subject to the Employee Retirement Income Security Act of 1974, as amended, individual retirement account or individual retirement annuity, or give advice in a fiduciary capacity with respect to the materials presented herein. If you are an individual retirement or other investor, contact your financial advisor or other fiduciary unrelated to Quantopian about whether any given investment idea, strategy, product or service described herein may be appropriate for your circumstances. All investments involve risk, including loss of principal. Quantopian makes no guarantees as to the accuracy or completeness of the views expressed in the website. The views are subject to change, and may have become unreliable for various reasons, including changes in market conditions or economic circumstances.