Lyxor Weekly Brief - What's Keeping Quants In A Rage?
Markets kept on heading north this week, supported by very cautious central banks, multiplying evidences of a macro-acceleration, and by decent earnings reports. The Lyxor Hedge Fund index was up another +0.4% this week, with CTAs outperforming. Planets remained aligned for them. Their long on equities and Euro bonds, as well as their long energy more than offset losses in short USD and long Gold positions. Diversified L/S Equity and Special Situations also benefitted from rising equities. Quant funds lagged, reviewed in more details below.
Quant funds remain in positive territories this year, but failed to break through. We see at least six reasons:
i. Over the first half, models reshuffled their sector and factor exposures toward stricter neutrality. It cut them off from the recent pulse in momentum and high beta stocks.
ii. The traditional drivers of Quant factors were unsettled by broader themes – including the tax or healthcare reforms, the dollar trends, elections etc.. This was evidenced by shifting allegiances of stocks/sectors to factors (for instance Utilities alternatively behaved like defensive or cyclicals). It challenged quantitative selection.
iii. In parallel, the correlation across Quant styles surged, with much less differentiation. It reduced the strategy’s opportunity set.
iv. While stock correlation plunged – usually a positive for Quants – volatility reverted to record lows. It also shrunk the number of opportunities, while forcing funds to raise their leverage.
v. The revival of the reflation trade spurred greater dispersion in a selective number of stocks. These opportunities were diluted in the funds’ diversified portfolios (save the ones actively trading stocks).
vi. The US earnings season did not help given the poor consistence of stock returns with their EPS.
While models’ approaches and calibration vary, the dispersion across funds’ returns was modest, and they are re-correlating. These constraints seem to apply to the majority. Their trading conditions remain mixed in our view, and their key risk lies with their elevated leverage. We remain in relative underweight.
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