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The Future of Stock Selection: How AI is Transforming the ETF Industry

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Can AI Outperform Human Investment Managers?

Artificial intelligence (AI) has come a long way in recent years, with the ability to write songs, talk, and code. But can AI replace human investment managers? AI-driven exchange-traded funds (ETFs) are trying to prove that it is possible, but their performance has been inconsistent so far.

AI-Powered ETFs: How They Work

Several AI-powered ETFs have been launched in recent years, including products from South Korea’s Qraft Technologies (QRFT, AMOM, and NVQ), Van Eck’s Social Sentiment ETF (BUZZ), Merlyn.AI’s Bull-Rider Bear-Fighter Index (WIZ) and its SectorSurfer Momentum ETF (DUDE), and WisdomTree International’s AI Enhanced Value Fund (AIVI). Like traditional ETFs, these funds offer investors exposure to a diversified portfolio of securities. However, they use machine learning, sentiment analysis, and natural language processing to identify patterns and trends that help guide asset selection.

Inconsistent Performance

Despite the hype surrounding AI-driven ETFs, their performance has been inconsistent. For the three-year period ending April 19, 2023, the Traditional Index Tracking SPDR S&P 500 ETF (SPY) delivered a 14.8% return. QRFT trails closely with a 14.5% return. Other offerings, including AMOM (12%), AIEQ (4.4%), WIZ (6.4%), and AIVI (11.9%), have struggled to outperform funds whose stock holdings are determined by the market value of a person or company.

The Challenges of AI in Stock Selection

When picking stocks, AI can struggle to track trends that don’t show up in historical data, company reports, and news media that it analyzes using natural language processing. As a result, AI-based systems still rely to some extent on human oversight and intervention. Wisdom Tree International’s AI ETF allows managers to review and reject trades in the firm’s portfolio, although this is “not happening very often,” according to the firm. EquBot has operational controls to help process false or inaccurate financial information and determine how often and what types of securities to trade.

The Advantages of AI

However, developers argue that AI models already eliminate inefficiencies in human decision-making. AI ETFs remove human bias and egos from the decision-making process. They can make decisions faster and more efficiently than human managers, and they can process vast amounts of data from multiple sources. By adding more sources of data, AI models can provide a better foundation on which to base stock selection decisions.

The Future of AI in Investment Management

As companies like OpenAI and Google pour billions into the development of AI, its ability to make sound decisions will only continue to grow. The quality of competing AI technologies is also improving. While AI that can be used to pick stocks is still in its relatively early stages, experts predict that it will improve significantly over time.

While AI-driven ETFs have yet to outperform traditional ETFs consistently, the technology behind them is improving rapidly. With more data and better algorithms, AI models will likely continue to evolve and become more effective at stock selection. Nevertheless, they will still require some level of human oversight and intervention to ensure that they make sound decisions.

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