Mutual Funds

Quant funds hit by ineffective strategies?

Bloomberg | Updated on March 17, 2019 Published on March 17, 2019

Equity-focussed funds are losing cash amid widespread outflows

When it comes to slicing and dicing equities based on their factors, the strategy beloved by quants is exhibiting symptoms of sickness. The challenge is diagnosing how serious it is.

This month, Neuberger Berman will become the latest big name to close a fund based on factor investing, which uses characteristics like quality and value to bet which stocks will outperform over time. The decision follows a similar move by Columbia Threadneedle in December.

Other funds have been bleeding cash. The Man Numeric Market Neutral Alternative Fund for UCITS has shrivelled to $20 million from around $300 million in mid-2018. Assets in the AQR Equity Market Neutral Fund have fallen nearly 50 per cent to $1.1 billion.

It’s anecdotal, sure, but it’s adding up to an increasingly gloomy picture across the industry and re-energising a debate about the effectiveness of such strategies. One of the most popular factors, momentum, has extended a miserable 2018 into this year. Value, another key style, has gone nowhere.

“If investors believe factor returns are well-behaved, they are mistaken,” said Vitali Kalesnik, head of equity research at Research Affiliates. “When investors need it the most, diversification may fade away and factors can go down together. This is exacerbated by the fact that they can go down several months in a row.”

And they have gone down. The AQR Equity Market Neutral Fund is on course for its sixth quarterly decline in a row, extending a 12 per cent slump in 2018 — the worst year since its inception. The Vanguard Market Neutral Fund has dropped 4 per cent in 2019.

Divining the cause of all this is a big challenge, given these complex, opaque pools of money, and some of the funds in question are modest in size.

One big problem of late has been a diversification fail. A change in the structure of the market will makes it harder for quants to generate idiosyncratic returns.

Momentum is down 3 per cent this year, while value has posted a small decline, after 2018 delivered the worst annual loss since at least 2000, according to portfolios compiled by Bloomberg.

All this may help explain why the fourth quarter was the industry’s worst for institutional fund outflows in two years, according to eVestment data. Equity quants on Credit Suisse’s prime services platform saw gross exposure fall 19 per cent in the second half of last year.

Still, those eye-catching stats came alongside big losses in the wider market. It’s late in the global expansion, and investors have been ditching stocks seemingly across the board. Institutions redeemed $748 billion from equity funds in 2018, according to eVestment.

Nor is it only equity factor funds that have suffered. A Goldman Sachs multi-asset risk premia portfolio saw its assets plunge to below $3 million from about $50 million over six months. GAM Holding was forced to write down a quant unit whose funds posted steep losses in 2018. Hedge fund Winton Group saw assets plunge by about $5 billion last year, part of the turmoil engulfing trend-following quants known as Commodity Trading Advisors.

Quant quake

Doubts and redemptions in quant land are as old as they come. Erik Rubingh, a fund manager at BMO Global Asset Management, recalls after the so-called ‘Quant Quake’ in 2007, money managers changed the names of quantitative teams a few times until they became trendy again.

After a relatively benign 2 per cent loss in 2018, Rubingh’s own BMO Global Equity Market Neutral V10 Fund is down 12 per cent this year. In a mid-February report, he noted that returns in the year following a draw-down tend to be strong.

“I don’t think institutions have given up on quant investing or factor investing, but now we have some question marks,” said Tayfun Icten, an analyst at Morningstar in Chicago. “So the firms that have an operational edge and more sophisticated infrastructure to execute will probably do better than wannabes.” Bloomberg

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