Yesterday, just before the selling accelerated in earnest, we warned that CTAs and other systematic, trend-following funds had finally joined the selling, as models that track equity trends flipped to a short signal.
It wasn't just the model-driven funds that were dumping however. According to Morgan Stanley derivatives strategists Rob Cronin, Ross Montgomery, there was a record unwind of levered HF trades in the EU Factor space amid very stressed trading in cash market with elevated bid/offer spreads and BIG volumes trading bid side (less so in futs) as "factor panic turned to market panic."
According to the Morgan Stanley strategists, yesterday's market saw "extreme factor dispersion with ~5σ moves across High Growth/Momentum/Expensive and highly elevated volumes traded intra-day (vs. close)." Ironically, MS says not to blame the Quants, who were the only buyers in town; instead the bank notes that "this is a directional HF unwind that is now sowing risk into other parts of the market."
Here are some more details on the record unwinds and rotations:
Position unwind of the most leveraged parts of HF book across High Growth/Momentum/Expensive stocks (chart on left), not dissimilar to the US Tech unwind late July. What’s worse in EU is that risk factors now have record high levels of overlap and loose hands are running for the exits at the same time. The GROWTH unwind (-4.5σ yesterday) wasn’t this severe since the 08 Crisis. Neither (MSQQEVLL) nor ‘Low Growth’ (MSQQEGRS) are catching a bid, the factor performance is driven by their badly exposed partners (Expensive = MSQQEVLS, High Growth = MSQQEGRL) unwinding.
ROTATION is most extreme now in Factors (2 day dispersion across factors is in its 96th %-ile vs. 2007). Single name dispersion is only in its 84th %-ile and country index dispersion is benign (64th %-ile). Strong intra-day participation in the leveraged HF factor trades yesterday as volumes traded at the closing auction were small in the factors where selling was heaviest and large in the more benign factors (i.e. people were happy to trade those passively).
Last 2 days has been all about stocks, not about futures. More volume traded at bid vs. offer in SX5E names in the cash market yesterday (-$1.3bn = -3σ event) but VG1 was the opposite (about +$800m traded net at the offer vs. bid, +1σ event). Moreover, if we look at volumes traded at bid vs. offer across factors/themes/sectors/indices, we can see the ‘at risk’ quant factors are having an enormous unwind (-4σ $ amount trading net at the bid).
Don’t blame the Quants for this sell off. All Directional HF groups and Institutions were far better to sell yesterday, Quants were the only ones on the bid side (for the first time in almost 2 weeks).