In late August, and early September, a previously unknown name, JPM's head quant Marko Kolanovic, emerged from relative obscurity, after he successfully called imminent market moves with uncanny precision, to wit:
- August 21, just before the Black Monday flash crash: "Why The Market Is Crashing Into The Close: JPM Explains [6]"
- August 27: "JPM Head Quant Warns Second Market Crash May Be Imminent: Violent Selling Could Return On Thursday [7]"
- September 3, before the next leg lower in stocks: "Home JPM Head Quant Is Back With New Warning: "Only Half The Selling Is Done; Expect More Downside [8]""
So after punishing the bulls like clockwork, many were wondering when will Kolanovic flip bullish and dole out some overdue pain for the bears.
The answer: moments ago, when in a note providing an "Update on Technical Buying/Selling" he concludes that the technical selling is now officially over and the same technical sellers, among which the much maligned risk parity funds that pushed stocks in late August and early September, are now "expected to buy Equities."
Incidentally, the market started rallying the note was sent out just after 1:40pm Eastern.
[9]
The key excerpt from his note:
Update On Technical Selling
We wanted to provide updated scenario analysis of potential technical flows due to Volatility Targeting, CTAs and Risk Parity funds. We have estimated selling flows from these strategies in our previous research. Many investors are asking us under which conditions and when these strategies would start re-levering (i.e. buying equities). We have analyzed these scenarios based on the hypothetical models and assumptions discussed in our previous research.
The most likely candidate for near term buying of equities is Volatility Targeting strategies (Figure 7). Given that they follow short term volatility signals, and the fact that the 8/21 and 8/24 return observations are falling out of 1-month averages, these strategies are expected to buy Equities. Under various realized volatility assumptions (shown in the figure below) they are likely to buy ~$10bn over the next few days. CTA strategy flows are highly dependent on the future market returns (Figure 8). If the market stays at or below current levels, according to our models CTAs are not likely to buy or sell equities. Should equities increase by ~2-3%, CTAs may start buying in the coming days. There is also a large upside convexity in CTA signals that could result in significant buying should the market increase by 3-5% from current levels.
Risk Parity strategies represented the smallest part of technical selling in August (less than derivatives hedging, Volatility Targeting and CTAs). They often follow slower signals and hence would be slower to re-lever. Figure 9 shows estimated Risk Parity equity holdings, and simulated holdings under various assumptions of realized equity volatility going forward. Under reasonable forward volatility assumptions, we would expect limited flows from RP portfolios in coming weeks. Please note that our definition of RP assets includes in-house managed pension assets, as well as non-US Risk Parity assets. [10]
[10]
In summary, technical selling pressure from VT, CTAs, and RP strategies sould be largely completed, and in the coming days/weeks flows may be skewed towards buying.
Finally, we wanted to address the much-talked about quarterly pension fund rebalances. Various analyses that we came across assume that pension funds rebalance at quarter-end according to a fixed weight asset allocation. This would imply buying assets that underperformed and selling assets that outperformed. Our view is that less and less assets are rebalanced according to this methodology (quarter end, fixed weights). Increasingly, funds are rebalancing based on risk-based prescriptions and rebalances are staggered/spread over various time intervals. This is also confirmed by various analyses showing a weakening of the quarter-end (reversion) effect.
