High-frequency trading. Quants. Algorithms. Hedge funds. These are all terms you hear about in the world of Wall Street. But what do they mean? And what’s behind them? The answer is invaluable intellectual property that’s worth hundreds of millions if not billions of dollars. It’s the algorithms that the investment world uses to trade billions of dollars in literally nanoseconds.
Algorithms are the locked up trade secrets of Wall Street. It’s the foundation of their trading platforms. It’s these proprietary trading codes that enable these investment funds to manage billions of dollars in trading all types of financial products such as stocks, bonds equities, futures and others.
Creating, building and testing this type of IP used to take years, lots of money, and usually it was only developed by the very large investment firms. Up until recently, it’s been the investment company who owns the trading algorithms developed by the “quants” working for the firm.
But that’s starting to change. Rather than do it themselves, they are now turning to organizations that specialize in developing many types of investment algorithms. This is changing not only the dynamics of the trading world, but also the business models of hedge funds and big investment funds, as well as the developers who create the algorithms.
They are moving toward an outsourcing model that includes licensing the core algorithms for their trading platforms. The licensing model enables investment funds to focus on their strengths, which is raising money, managing and marketing their funds to investors. They can start new funds faster with lower operating costs, and get access to a wider variety of trading algorithms to help maximize the return for their investors.
For the creators of these algorithms, this shift is opening up new opportunities to create, own and profit from their algorithms through licensing. New technology platforms are emerging on which they can develop, test and license out their algorithm IP.
One example is Quantopian, a company that focuses on crowd-sourcing investment algorithms and licensing them out to investment companies in return for a royalty on their investment income. Quantopian provides all the development resources such as equity futures databases and IT infrastructure. Once the algorithm is proven, it’s eligible to be added into Quantopian’s IP portfolio.
Currently, Quantopian has over 400,000 trading algorithms created by over 85,000 community members. If the algorithm is licensed, the developer receives part of the royalties Quantopian receives from the investment fund. Plus they continue to own the IP.
Algorithms run from very simple tasks all the way up to very complex systems to analyze huge sets of data very quickly. In the case of the financial industry, it’s the ability to determine what investments to make, when and how to make them and consistently deliver a positive return on investment.
But finance isn’t the only industry where algorithms are the core IP. Some of the biggest and most successful algorithms (and valuable) are ones you probably use every day on Amazon and Facebook. Algorithms enable the easy connection between devices in industries such as outsourced health care and medical devices, in which connected devices and sensors help diagnose and solve medical problems more effectively. Algorithms also become “smarter” as they analyze data and are able to determine autonomously what to do with it. One example is the diver-less car, where algorithms are learning such tasks as which way to go to avoid rear ending a car.
Because it’s code, algorithms are kept as trade secrets. Similar to other forms of intellectual property, algorithms can be licensed for a percentage of future profits. What makes algorithms so valuable to license is not the algorithm itself but the results it delivers. Algorithms analyze lots of data to solve problems, complete tasks, connect devices and provide recommendations. One example is predictive maintenance. I’m working with a client who developed an algorithm that analyzes maintenance data for fleet vehicles, and recommends the best and most cost-effective time to replace aging vehicles.
In today’s data intensive world, algorithms enable us to use data to do something faster, cheaper and quicker – trade stocks, book travel, find a roommate or sell real estate. Like the financial industry, new markets are opening up big licensing opportunities with significant revenue, such as in the fast emerging Internet of things, where algorithms are at the core of applications connecting billions of devices with people and technologies across just about every industry around the world.