Tuesday, July 31, 2007

Algorithm wars

Some tantalizing Renaissance tidbits in this lawsuit against two former employees, both physics PhDs from MIT. Very interesting -- I think the subtleties of market making deserve further scrutiny :-)

At least they're not among the huge number of funds rumored at the moment to be melting down from leveraged credit strategies. Previous coverage of Renaissance here.


Ex-Simons Employees Say Firm Pursued Illegal Trades
2007-07-30 11:19 (New York)

By Katherine Burton and Richard Teitelbaum

July 30 (Bloomberg) -- Two former employees of RenaissanceTechnologies Corp., sued by the East Setauket, New York-based firm for theft of trade secrets, said the company violated securities laws and ``encouraged'' them to help.

Renaissance, the largest hedge-fund manager, sought to block Alexander Belopolsky and Pavel Volfbeyn from using the allegations as a defense in the civil trade-secrets case. The request was denied in a July 19 order by New York State judge Ira Gammerman, who wrote that the firm provided no evidence to dispute the claims.

The company denied the former employees' claims.

``The decision on this procedural motion makes no determination that there is any factual substance to the allegations,'' Renaissance said in a statement to Bloomberg News. ``These baseless charges are merely a smokescreen to distract from the case we are pursuing.''

Renaissance, run by billionaire investor James Simons, sued Belopolsky and Volfbeyn in December 2003, accusing them of misappropriating Renaissance's trade secrets by taking them to another firm, New York-based Millennium Partners LP. Renaissance settled its claims against Millennium in June. The men, who both hold Ph.D.'s in physics from the Massachusetts Institute of Technology, worked for the company from 2001 to mid-2003, according to the court document.

``We think the allegations are very serious and will have a significant impact on the outcome of the litigation,'' said Jonathan Willens, an attorney representing Volfbeyn and Belopolsky. ``We continue to think the allegations by Renaissance concerning the misappropriation of trade secrets is frivolous.''

`Quant' Fund

Renaissance, founded by Simons in 1988, is a quantitative manager that uses mathematical and statistical models to buy and sell securities, options, futures, currencies and commodities. It oversees $36.8 billion for clients, most in the 2-year-old Renaissance Institutional Equities Fund.

According to Gammerman's heavily redacted order, Volfbeyn said that he was instructed by his superiors to devise a way to ``defraud investors trading through the Portfolio System for Institutional Trading, or POSIT,'' an electronic order-matching system operated by Investment Technology Group Inc. Volfbeyn said that he was asked to create an algorithm, or set of computer instructions, to ``reveal information that POSIT intended to keep confidential.''

Refused to Build

Volfbeyn told superiors at Renaissance that he believed the POSIT strategy violated securities laws and refused to build the algorithm, according to the court document. The project was reassigned to another employee and eventually Renaissance implemented the POSIT strategy, according to the document.

New York-based Investment Technology Group took unspecified measures, according to the order, and Renaissance was forced to abandon the strategy, Volfbeyn said. Investment Technology Group spokeswoman Alicia Curran declined to comment.

According to the order, Volfbeyn said that he also was asked to develop an algorithm for a second strategy involving limit orders, which are instructions to buy or sell a security at the best price available, up to a maximum or minimum set by
the trader. Standing limit orders are compiled in files called limit order books on the New York Stock Exchange and Nasdaq and can be viewed by anyone.

The redacted order doesn't provide details of the strategy. Volfbeyn refused to participate in the strategy because he believed it would violate securities laws. The limit-order strategy wasn't implemented before Volfbeyn left Renaissance, the two men said, according to the order.

Swap `Scam' Claimed

Volfbeyn and Belopolsky said that Renaissance was involved in a third strategy, involving swap transactions, which they describe as ``a massive scam'' in the court document. While they didn't disclose what type of swaps were involved, they said that Renaissance violated U.S. Securities and Exchange Commission and National Association of Securities Dealers rules governing short sales.

Volfbeyn and Belopolsky said they were expected to help find ways to maximize the profits of the strategy, and Volfbeyn was directed to modify and improve computer code in connection with the strategy, according to the order.

In a swap transaction, two counterparties exchange one stream of cash flows for another. Swaps are often used to hedge certain risks, such as a change in interest rates, or as a means of speculation. In a short sale, an investor borrows shares and then sells them in the hopes they can be bought back in the future at a cheaper price.

Besides the $29 billion institutional equity fund, Renaissance manages Medallion, which is open only to Simons and his employees. Simons, 69, earned an estimated $1.7 billion last year, the most in the industry, according to Institutional Investor's Alpha magazine.

1 comment:

Anonymous said...

This really shouldn't come as a surprise... "strategies" like that are not all that uncommon, and they are not illegal by any means. It's not so much hacking as it is opportunism....... and that's all I have to say about this.

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