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With Long/Short Investing Dead, The Days Of LTCM Strategies Are Back As Market Plants Seeds Of Own Destruction
We have long observed the decline and eventual death of fundamental analysis, courtesy of i) the Fed's dominance of capital markets, ii) the emergence of HFTs and technicals as key driving forces behind the stock market, and iii) the record implied correlation between all stock asset classes, meaning everything trades as one. Ironically, the result is that reasonable, long/short investment strategies no longer generate a return (alpha or whatever one calls this relic of efficient markets), and instead we are back to the good old "pennies in front of a steamroller" strategy that was so "successful" and made so popular by such spectacular implosions as LTCM. Don't take our word for it - the FT reports: "The hedge fund strategy pioneered – and made notorious – by Long Term Capital Management is returning to prominence amid one of its most successful years yet, aided in large part by the massive issuance of bonds by the UK government and other sovereigns." In other words, the market is now stuck in a mode (courtesy of central planning) which guarantees that the only way to make money, sets the seeds of the markets' own destruction. It is only a matter of time before every investment strategy follows in the flawed footsteps of John Meriwether (who unfortunately can't participate in today's market due to three prior collapses, or else he would be making mint) and soon every single asset manager (not due to their own mistakes, but basically as a function of what the market rewards now) will follow a fate which will appear like an LTCM-like supernova in which every spread convergence trade explodes to historic divergence in a span of seconds.
Fixed-income relative value trading – shunned by investors after the collapse of LTCM in 1998 – has been one of the industry’s few outperformers this year, thanks to massive pricing anomalies caused by fiscal stimulus packages and unconventional central bank monetary policies around the world.
According to Hedge Fund Research, the average relative value fund has returned 5.33 per cent so far this year, compared with just 1.52 per cent from the average hedge fund. Relative value trading involves identifying “inefficient” prices in bonds – typically government bonds – and wagering that the prices will correct over time.
With mainstream hedge fund strategies such as equity long/short and global macro floundering amid volatile markets, relative value funds have seen their inflows increase. The strategy has taken in $10bn (€7.8bn) from investors this year – accounting for close to half of the entire industry’s inflows.
Among the strongest performers so far has been the $550m Barnegat fund, based in New Jersey. The fund, which was set up after the collapse of LTCM and has recently opened to outside investors, returned 6.5 per cent in July and is up 16 per cent so far this year. The $4.5bn London-based Capula, the world’s largest relative value fund, was meanwhile up 6.78 per cent for the year as of the end of July, according to an investor.
And the irony of confirmational bias:
Relative value funds have also benefited from a thinning of competition. Prominent relative value hedge funds, such as Platinum Grove and JWM Partners, have shut down, while banks – once big-time players of relative value trades thanks to their deep pockets and ready access to cheap finance – have exited the market en masse.
Or, perhaps we, and every other realist is wrong, and the Fed is truly smart enough to be able to run centralized planning effectively for the largest economy and most complex economy in the world...
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Front-run the Politburo, bitchez.
Clinging to the past if it worked for you before is understandable, if doomed to failure. This is the premise behind the equity bulls' view that 'stocks are cheap based on forward earnings', when the forward earnings are calculated off a return to the prior trend GDP and earnings growth rates.
No chance, and we all know it. Does not mean that you can't trade the market from the long side, but its purely a market to rent, not to own.
"Clinging to the past if it worked for you before..."
LOL. Like Bernanke piloting the Titanic... twice?
No. He found the mistake. You forget. When the shit got really bad in australia they upped interest rates and it started a flood of people moving money to them because they were paying interest. This time they upped it first as well but only a small amount because they are in the exact same boat they were in commodity wise as 1933.
Bernanke is under the impression that the huge raises in interest by the fed desperately trying to get people to put money back into banks which worked sort of. Because it got them to put money in and then they jacked it RIGHT back to near zero. Which signaled won't play fair to the market and set off the second big bank run and 2nd big crash. The 30's deflated, inflated and then went to war. This time they will inflate, then deflate then go to war wich will be necessary to inflate fast enough to secure the ill gotten gains.
Bernanke is going beyond full retard on his current trip. By the time we get to QE2, he will have invented a whole new category of stupid
Kyle Bass..... he can have my kids..... what a smart hottie.... OMG ... his DNA is similar to John "Mr. FX" Taylor's
Fixed-income relative value trading – shunned by investors after the collapse of LTCM in 1998 – has been one of the industry’s few outperformers this year, thanks to massive pricing anomalies caused by fiscal stimulus packages and unconventional central bank monetary policies around the world.
Sure, just look at the Irish CDS tightening story a few posts ago. http://www.zerohedge.com/article/irish-cds-tightens-20-bps-after-successful-bond-auctions
Sovereign (especially) bond markets lurch from one press release to the next as nothing fundamental ever really changes for the better...although you can make a few quick bips here and there if you ride the waves right. The ultimate endgame remains obvious and damn close to inevitable at this point.
It's not just the US economy, it's a lot of the world, too, being drawn into complete fiction. There's no way these bonds are going to be paid back, its becoming politically unfeasible - imagine if this POMO correlation was on the evening news - the only way the economy is growing is by pushing up the money supply. .and up and up and up.. at some point Geitner or Bernanke is going to actually have to become a man, and say, the economy is not growing. And deal with how it downsizes- rather than running around like a headless chicken trying to paint everything with lipstick.
Nah, with the super-duper HFT algos, it'll be a matter of milliseconds.
Is it not obvious that the scumbag banksters who have steered policy for the last decade WANT destruction?
Total protonic reversal.
<Rant>Have been following this blog and others on the internet for around 2 years now. I have to admit my patience has worn thin and so has my enthusiasm. I traded successfully many times and on the whole have made decent coin. However, I am so fed up already by these daily interventions in the market by the govt, it benefits neither the bulls or the bears. I have reached a point where I have less and less enthusiasm to participate. So back in May, I moved 70% of the funds to a money market account. The other 25% is layered puts...but I am beginning to think I cannot win with these 'daily interventions and market subversion. I wonder if others feel the same and if it will be the black swan that brings this down. Just like 2007 when everyone seem to decide at once that buying no longer worked and walked off. Will we have a mass walk off the US capital markets?
+1
Buy long dated, out of the money puts, roll if you have to and wait, wait, wait....
You only have to be right once.
Remember though, you are allowed to cash out of your MM funds at the pleasure of the SEC these days so I wouldn't consider those funds completely "off the table."
You may want to consider adding physical PM's if you haven't already done so, solid inflation, deflation, and devaluation hedge. I'm not a gold bug, just logically it makes sense.
"I moved 70% of the funds to a money market account."
It sounds like you're as frustrated as I am with this B.S. market. But I took all my money and put it into Food/Agriculture and Gold/Silver.
I don't see how I can lose. Especially Gold and Silver given the upcoming removal of Position Limits by the CFTC. It's a no-brainer. But of course most Americans have no brains so they haven't seen this yet.
That is a dangerous position if the market sells off. Everything is correlated and you could get burned very quickly. It happened to me in the 2008 selloff and I was in your same position. You would wish you could buy your current position after a severe selloff as in the low of March 2009, which would beg for a cash position now. Then again, rarely do we get an exact rerun of the last war. Diversify.
Yeah, we've seen this movie before so now everybody knows that you "never go full retard".....even if you have PhD.
Everybody knows that don't they? Don't they?
No, because north of 85% of the stock market is five desks..they have no-one to sell to, they don't want to make a loss, uncle Ben keeps them fed, all hoping that they can do one, last, useful thing before they retire on their bonuses.
A small quibble:
Without the wholesale cooperation and collusion of the 'money center' banks and the various tendrils of the government, I seriously doubt that the 'domination' would last long or be as persistent.
It's all one big interconnected orgy.
My only question is: Who's on top?
Figure that one out and you'll have a pretty good idea 'when' this all comes to a screeching halt.
You sir, are a genius. Asking exactly the right question.
I propose instead that the Globalization Empire is a team sport. There's something in the orgy for everyone, and all the top players reinforce eachother.
But if it were possible to have exactly one "shot caller" at the head of the Empire, who could it possibly be?
cheers,
Beef
Merriweather already opened a new shop and has raised money. Maybe the 4th blowup will be the charm that puts his reputation to bed. If there ever was a short vol strategy who's only answer to being wrong is more leverage this is it. takes very little skill and almost all returns are attributable to leverage.
Seems strange that microsecond HFT doesn't work even if correlation is high. Just pick a pair to short and long and let the random noise make your money. Unless they are seeing scaling laws, which is interesting in itself.
Here's a guaranteed money machine idea thanks to Ben:
Find a firm with huge free cash-flow per share, a Ft. Knox balance sheet, and a juicy dividend. Short it with leverage. Find some old trash that never made money in ten years, and can't sell product to anybody. Ultra-long this piece of crap.
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