Tag Archives: Paloma Partners

The Two Fathers of Quants: Donald Sussman and D.E. Shaw

Early Computer: Commodore 64.

The birth of stock trading based on computer modeling is an interesting, if not so well-known story. It begins in 1988, when 37-year-old David E. Shaw phoned hedge fund manager Donald Sussman.

Shaw was a Californian who had a Ph.D. from Stanford University and had formerly been a computer science professor at Columbia University, but was now working for the giant investment bank Morgan Stanley. Shaw wanted to talk to Sussman about his new-found career on Wall Street. Shaw had just been offered a new job at Goldman Sachs, one of Morgan Stanley’s chief competitors, and wanted advice from Sussman about what to do.

Back in the late 1980s Wall Street and computers did not mix. What Shaw was doing at Morgan Stanley was brand new, and was even kept as a company secret. Shaw needed Sussman’s advice about what his next move should be: stay at Morgan Stanley;  move to Goldman Sachs; or perhaps there was a third option?

Donald Sussman, the founder of Paloma Partners, was intrigued by Shaw. He was an expert in recognizing and financing hedge-fund talent. He became excited by what Shaw told him about the potential for computer technology to revolutionize the finance industry. Shaw’s ideas not only eventually led to the transformation of the culture of Wall Street, but also led directly to the development of on-line retailing, paving the way for such successful ventures as Amazon.

In 1988, at the birth of this brave new world, Shaw just told Sussman, “I think I can use technology to trade securities.”

Sussman was not impressed with the Goldman offer. He told Shaw: “If you’re confident this idea is going to work, you should come work for me.”

During a three-day cruise around Long Island Sound on Sussman’s 45-foot boat Shaw and his partner, Peter Laventhol convinced Sussman that their idea had great potential.

Sussman recalls that the pair “convinced me they believed they could generate models that would identify portfolios that would be market-neutral and able to outperform others.” In other words, the plan had the potential to make a lot of money with minimal risk.

Sussman’s Paloma Partners invested $30 million with D.E. Shaw. Since that moment in history the company flowered into a $47 billion firm, earning its investors over $25 billion as of 2016. The company made millionaires out of many employees and David Shaw into a billionaire.

Today, because of the genius of David Shaw and the vision of Donald Sussman, the quantitative revolution has become the most wide-spread trend on Wall Street, and especially in hedge fund investing, managing $500 million of the industry’s $3 trillion in assets. Seven of the ten best performing funds are “quants,” including, of course, D.E. Shaw. Not surprisingly, one of those other seven, Two Sigma, was launched by former D.E. Shaw employees.

The world of finance, retail and more, owe quite a bit to these two pioneers, Donald Sussman and David Shaw.