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Quant Wipeout In Process?
On Monday we posted an article, highlighting Morgan Stanley's observations that we may be on the verge of an August 2007-like quant wipeout. Considering what is happening today, it may have proven eerily prescient. Below, we repost the full thing as some may not have taken it seriously the first time around.
Morgan Stanley Sees Recent Market Conditions As Reminiscent Of August 2007 Quant Crash, As "Don't Fight The Fed" Groupthink Trade Fizzles
Something scary this way comes from Morgan Stanley's Quantiative and Derivative Strategies: "market
conditions over the last two weeks are somewhat reminiscent of that
during the August 2007 ‘Quant Crisis’. In only a few days, a number of
quantitative long-short equity funds experienced unprecedented losses in
seemingly ‘normal’ market conditions. We do not suggest here
that the magnitude of hypothetical losses match those from 2007,
however, there is little question that the rotation has drawn attention
of many quant investors." In other words, the massive groupthink trade
that we have been warning about for months may be about to claim its
first mass casualties.
The just released report by author Charles
Crow elaborates what many have been suspecting, yet few dared to voice:
"Recent substantial factor movements in Europe have contributed to
portfolio volatility and, in some cases, abrupt performance degradation.
Portfolios positioned to take advantage of prevailing factor trends may have suffered substantially over the last two weeks."
Is the groupthink trade about to end? If so, does that mean the funds
will be forced to stop "not fighting the Fed" as this is really the only
factor-driven trade that has made sense. If so, we have reached the
critical point where being aligned alongside the Fed has no incremental
marginal returns, at least for the non-Primary Dealers. This could
promptly transform to a watershed event, especially since as Morgan
Stanley adds, the market currently has "relatively low liquidity" to
absorb the fringe moves.
More details from Morgan Stanley:
Recent
substantial factor movements in Europe have contributed to portfolio
volatility and, in some cases, abrupt performance degradation.
Portfolios positioned to take advantage of prevailing factor trends may
have suffered substantially over the last two weeks.These
rapid and significant reversals of factors returns have caught many
investors – quant and fundamental managers alike – on the wrong side of a
trade. The broad rotation also raises the question whether
this represents the beginning of a secular shift back into Value at the
expense of Momentum, Quality and Growth. Alternatively, the rotation may signify an idiosyncratic quant portfolio rebalancing in a market of relatively low liquidity.We
first seek to place the recent factor returns in a historical context.
Exhibit 1 presents the weekly cumulative factor performance over the
first three weeks in January. The fundamental factors span major
investment styles, including Value, Growth, Momentum, Financial
Leverage, Quality/Profitability and Free Cash Flow. To appreciate the
recent rotation, also included is the cumulative performance of each
factor over the entirety of the 2010 fourth quarter.
The
above performance is sorted according to the week of January 17 – a
period that realized substantial and persistent factor returns. It is
evident that the rotation began over the week of January 10
(specifically, our data suggests it started on Tuesday, January 12).The
magnitude of weekly factor performance is striking and, in some cases,
exceeds absolute factor performance over the entirety of 4Q10. Quant
portfolios positioned to exploit recent Style trends – portfolios
potentially long Quality (e.g., ROI), Growth (e.g., 1-Yr Est. EPS
Growth), and Momentum (e.g., 12-Mth Price Momentum) – have endured
violent reversals in many underlying positions.For example,
12-Mth Price Momentum gained 4.2% over 4Q10, yet declined 5.3% during
the week of the January 17. Negative Momentum is an indication of broad
mean-reversion in the underlying equity market (e.g., ‘churn’). In fact,
the factor realized -10.0% over the last eight trading days through
unrelenting negative performance. The factor’s return exceeded
2-standard deviations moves on four of the last eight days. On January
12 – the first day of the ‘rotation’ – the factor realized -2.6% on a
single day (a 3.9-standard deviation event).All of this
factor turbulence was realized in a range-bound equity market. Despite
the recent increase in realized volatility, absolute levels remain
historically low and expected short-term volatility has declined over
the last ten sessions – see Exhibit 2. The VStoxx Index, which measures
the cost of protecting against a decline in the Euro Stoxx 50 Index,
declined 3.1% over the week of January 17.
Thus,
market conditions over the last two weeks are somewhat reminiscent of
that during the August 2007 ‘Quant Crisis’. In only a few days, a number
of quantitative long-short equity funds experienced unprecedented
losses in seemingly ‘normal’ market conditions. We do not suggest here
that the magnitude of hypothetical losses match those from 2007,
however, there is little question that the rotation has drawn attention
of many quant investors.Exhibit 3 emphasizes the
magnitude of recent daily factor returns in Europe. The +/-1 standard
deviation bands from September 1, 2010 to January 21, 2011 overlay the
daily factor performance. A number of factor returns over the last two
weeks have well exceeded 2-standard deviation events. Despite the recent
uptick in market volatility, factor trends since the start of the
rotation on January 12 have been largely one-sided.
One
assumption from Morgan Stanley is that we are seeing an
unprecedented-scale sector rotation by the quant community as it
attempts to diversify from a huge one-sided trade, which is forcing many
funds to get blown out of the water on loser positions.
Sector-level
excess returns of the two factor quintiles suggest a relatively
broad-based rotation. Book/Price, that has gained 5.8% over the last two
weeks, has largely seen its ‘cheap’ portfolio outperform across
sectors. Similarly, the ‘expensive’ segment across sectors has
concurrently underperformed.Analogously, the best performing
names within our 12-Mth Price Momentum have largely underperformed
consistently over the last two weeks, while the worst performing names
have outperformed.Although there are exceptions (e.g., -3.1%
excess return within the worst performing Info Tech portfolio on January
13, which is a relatively concentrated European sector), the overall
performance of the two factors appear to be driven uniformly across
sectors. An open question is whether this rotation is short-lived or we
will be experiencing a continuation of the reversal in the coming days
and months.A number of quant managers have adapted their
approach to investing by taking into consideration risk factors such as
crowded trades and abrupt style rotation. While some would have been
less exposed to this recent trend, the environment continues to be
challenging.
Our
less than politically correct interpretation of this finding, as noted
above, is that the traditional "don't fight the Fed" trade, validated by
whatever combination of factors, is now on its last breath, and all
those who are caught in it last, will see massive losses, ergo the
scramble to rotate out. Should this indeed be the case, we are due for
some material market turbulence as the quants struggle to reposition
themselves in a market which is now longer dependent on the day to day
whims of Ben Bernanke and the "Sack Frost" POMO dynamic duo. Lastly, if
indeed we are in the midst of an August 2007-type of Hurricane, it is
about to get a whole lot messier. Add Tom DeMark's expectations for an
11% decline in stocks, and not even the "Fed Frontrunners" may be able
to continue the melt up at this point.
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This is really old news...
but in any case, should I BTFD now?? Guys I am a newbie... please help!!
BTFD will continue to work ..... until it doesn't. Do you feel lucky?
Doubtful many new positions will be taken that will be held over the weekend, unless gold and oil.
But then WTF do I know? Step up and spin the wheel! Everybody wins in the Casino Bernank.
You should definitely BTFD, but remember to buy at the bottom.
Do you pick up dimes in front of a steamroller? Do you gamble in a rigged casino? You can make money there too.
Hmmm. This could be the start of an eventual 30% or more correction. I thought it would start around April Fool's Day (appropriate, teehee), but Egypt may turn out to be the earlier trigger.
Very doubtful. Again, we could pull back to 1250 at some point but there are just too many buyers coming in on these 1-2% dips that it's going to be difficult to even see that.
Direct some of those buyers to GM, down 5.5%.
They can find it under "G" for Government.
A very safe investment...as the company's stock has not gone to zero for many months.
With the world problems going on...think it will fall back to 1100's by May.
Easy come, easy go Harry.
Harry, are you talking about gold?
(pregnant pause)
With Egypt (and now Syria) in deep doodoo, what Tyler tweeted earlier: WTI = 140$ easy.
Yes I'm sure "too many buyers" are waiting to prop up your APPL shares..
Why don't you just go long YHOO like you did back in the day and gamble some more? Break out those "tight stops" so you can prevent yourself from getting a 30% loss in one day... LOL
Yes I'm sure "too many buyers" are waiting to prop up your APPL shares..
Why don't you just go long YHOO like you did back in the day and gamble some more? Break out those "tight stops" so you can prevent yourself from getting a 30% loss in one day... LOL
Nah, as soon as Benny realizes what's going on he'll pump a few Billion$ into Apple and everything will be better.
sunny
This is looking to be one of the more interesting days since the flash crash.
No the unqualified clown Sec. Clinton is on TV. These elites are completely out of touch with humanity.
They always are. Why should they care about the inflation the FED is causing. They can still afford anything they want.
In true Clinton fashion, she'll wait to see how the wind blows before making a decision .. one she can backtrack on, when the next gust hits.
The Egyptian crisis is a true black swan. We knew there'd be one, didn't we?
Not at all a black swan.
Black swans are paradigm altering events. Egypt is just a "typical" event. Unpredictable, yes. Extreme? maybe. Black Swan? not even close.
Give it time. If Egypt goes anti-American, les deluge.
NQ
Before...
http://99ercharts.blogspot.com/2011/01/nq_28.html
I am 100% confident between Brian Sack and JPM the SPX will make a full bloody recovery today.
PPT selling USD (Lord knows they have inventory)...which usually does the trick.
What is the Bernanke going to do? Should be interesting....
market is just following aapl. nothing else
NAZ bouncing back hard off those lows. Losses will be cut in half by close if not more IMO.
Exactly. I am just sitting here watching.
Better money in Gold & Oil today. Crack spreads are a screaming buy
Nasdaq continued down . Closed near the lows .
Nasdaq continued down . Closed near the lows .
Nasdaq continued down . Closed near the lows .
Urinal cakes can't catch a bid here, folks...
This could get very interesting. Wheels may come off and drivetrains may buckle under The Bernank's nose here...especially given that The Bernank Put will cause a toxic shock to the downside if it's taken out, given that it's so much larger than Greenspan's was.
I'm definitely not bidding on your urinal cakes, thanks.
HarryWanger sells the urinal cakes. His orders are down sharply as The Bernank's actions have caused their primary ingredients to skyrocket in price.
Harry Wanger Urinal Cake Company, PLLC -
We've been living on the Bernank Put since 2008....
What a Bizarre day! Crude oil is up $4. Grains up! Gold and silver up sharply. Dollar up! And stocks are down sharply. Something fishy this way comes!
No worries. 33 Liberty and the magic HFT boxes will have everything back to normal with the hour.
Clinton has spoken and although she may have been saying gibberish the underlying message was.."Buy The Fucking Dip"
Exactly. The market reversal to the upside is just a few keystrokes away. I believe its called the ass button
No thanks Harry, I dont need any urinal cake bids today.
Treasury yields were dangerously high during
the last days.
I guess the FED strategy is to crash stocks in
order to defuse the pressure on Bonds.
Then when a major correction comes (as I
guess we are entering) the Fed will appear with
a QE3 in order to save the planet.
Saving the planet is figurative.
They will try to repeat this pattern until there is
no more paper in the world to print their
worthless currency.
QE3 to ensure the entire world goes into full food famine riot and revolution mode? Well, that COULD actually be the plan!
roger that.
Accidents and blunders can qualify as plans if the results turn out well. Did Reagan intend to implode the USSR with "borrow and spend" economics? Some would say yes. Could that be used as a template to topple other large communist states? I'm going to go with "yes" on that one.
BTW, for any Reagan worshipping junkers out there, please wrap your lips around my exhaust pipe whilst I floor it.
Starve the competition, make em riot and close themselves down. US then has last runner advantage. It is in a recent Citigroup report.
Starve the competition, make em riot and close themselves down. US then has last runner advantage. It is in a recent Citigroup report.
Starve the competition, make em riot and close themselves down. US then has last runner advantage. It is in a recent Citigroup report.
Smoke 'em
The real question is whether the immigrant youths of France and other Med countries will be inspired by all this video to go outside and break something.
If so, Euro could drop 20 cents in a month (ala 08 crisis).
Weekly expiration might be exacerbating the moves today http://bit.ly/h143ss
Feeling lucky, I just BTFD in FAS.
Yes, we have no bananas, and neither does the Fed.
time to go back to Tally Sticks????
The Ben Bernank is a silly man, with a quivering lip, nervous in speech and action, and the world's investors will witness the destruction and malinvestment of capital his dangerous policy actions have wrought.
tape just like 1 st trading day this month but in reverse....lots of -3% - 6% ers
red for the month 1260 on spx looks likely
I think a lot of money will come screeching into countries like India, where the public is newly enriched and ripe for the taking.
Other boats may well float too. Metals of course.
But the situation in North Africa has really thrown it all up.
Weatherman, wind direction?
ORI
http://aadivaahan.wordpress.com/2010/06/14/70/
yeeee for d trigger
its truly a BTFD kind of day
Market has hit bottom, hope everyone BTFD.
Definately a work through lunch day today.
this does not have the feel of the creeping previous falls.
there is good volume today - very surprising for a friday - and previous 'dips' have been bought quickly.
that's my take on it anyway. I'm not buying this dip.
bonne chance!
Baghdad Bernanke is 100% certain there is little or no inflation (deflation is the big risk, he says), that the economy is undergoing a true, V shaped recovery on fundamentals, and that Egypt is a stable democracy.
TOTALY stable in Egypt...meanwhile Clinton says theres no need to worry until we see full revolution riots in Yemen...and on cue heres breaking revolution riots in Yemen as well. Buy the fukin world implosion!
I am watching JPM buying the Russell on L3 right now. They just need another hour or so, until we can go back up.
Good! Let em buy it all! JP Morgue bagholders and other the others, fuk em.
Where's "The F*#&%@$ BERNANK?" Oh yeah, he's getting his Fri Rubdown. He'll have this all straightened out by the closing bell - unless he starts drinking @ 2... then... STFT! Wait for the dip next week, when "The Bernank" has sobered up from the weekend.
The reversal reversed this week. Quants are way way up for Jan. Doesn't mean that some quants aren't doing stupid things.
Last week's action was liquidity driven. Probably someone reallocating or a style rotation; possibly someone liquidating a book.
Whatever it was, this week was hugely positive.
If it is anything like 2007, it's like July, not August.
I see it more like end of Feb 2007, not July 2007 or August 2007.
You might be right. The cross-section of today's action is pretty benign. All that's happening is just centered around a 2% delta, a lot like Feb 27, 2007 when China was down 9%, US down 3%, but cross sectionally indistinguishable from normal
I would agree with the "benign" diagnosis. Alot of algo-traded small cap MOMO is trading oblivious to the major index moves and not suffering much damage... proportionally. The correction has yet to hit the full cross-section.
Three words. AT FUCKING LAST.
The following video best explains how I feel today:
http://www.youtube.com/watch?v=q951qv7EbKs
Been reading your pain the last while. Maybe, instead of reading BTFD, people will start saying AFL in honor of you, BD.
:)
I don't think this is a reaction to Egypt because the selloff started at 6:50 am NY time. I think it is a reaction to the weak employment numbers yesterday. All the hedgies bascially waited until after the open to start de-risking.
I don't think we BTFD until ES hits the 200 day moving average at around 1150. Which is about 11% down, like Demark predicts.
agreed - egypt is just window dressing for this move. minus 10%-12%. then BTFD like a bastard.