Is Barclay’s (BCS) a good short? Jeff Mathews seems to think there is more to come. An update for their 32 Capital Fund is scheduled by tomorrow.
AQR down 21% YTD.
Goldman’s Global Alpha down 27% (40% drawdown) and Equity Opps down 30%.
Tykhe Capital down 17% to 31% in August.
Simon’s (Renaissance) letter to investors.
and Lehman’s comments on why it happened.
After recent market action, I feel like quoting Borat from humor school.
“Market neutral funds are market neutral . . .NOT!”
A table of the listed “alternatives” is below. The arb funds (convertible and merger) and managed futures had respectable down days compared to the other funds, while holders of market neutral TFSMX are smarting after a near -5% dump.
A quote from a letter from TFS Capital:
“TFS Capital’s long short investment funds have suffered large losses so far this month. This MarketWatch story describes similar hedge and mutual funds that have performed similarly in recent days. The story provides insight into what may be causing this situation and what others think may happen in the future.”
In other words, everyone else is doing bad so don’t blame us for the 15% drawdown we are in. All the market neutral and l/s quants design a factor based model, and they’re all pretty similar (and for an OUTSTANDING discussion check out Haugen’s books “The New Finance” and especially “The Inefficient Stock Market“). They buy the top decile, and short the bottom decile, and you can see the herding when you look at the top holdings of the funds. Many funds include momentum as one of the factors as well.
One of the difficulties for these funds is when the rankings invert – the top decile performs the worst, and the bottom decile the best. I track a couple generic quant ranking systems on Marketocracy. Below, you can see that the long portfolio has done well, and the short portfolio has likewise done better than the overall market. But if you look at the recent action, BOTH the long and short portfolios are losing money – a classic inversion and what is likely killing all the MN and L/S funds. . .
LONG PORTFOLIO
SHORT PORTFOLIO
As an aside, the UK listed hedge funds are not immune to the recent market action. . .Some background on Alternative Investment Strategies and Dexion Absolute.
Charts for:
Goldman Sachs Dynamic Opportunity Fund (GSDO.L)
Dexion Absolute (DAB.L)
HSBC Global Absolute (HSBC.L)
Atlin AG (AIA.L)
Alternative Investment Strategies (AIS.L)
“When the facts change, I change my mind – what do you do, sir?” – J.M. Keynes
I relish the freedom in being able to change my mind (some would say to a fault). One huge problem in any profession is vested interests. WisdomTree, for example, has built their entire business around dividends. When confronted with a paper such as “On the Importance of Payout Yield“, Siegel/Steinhart are faced with two options.
(Note: The authors of the paper find that “the widely documented decline in the predictive power of dividends for excess stock returns is due largely to the omission of alternative channels by which firms distribute and receive cash from shareholders.” Additionally, while dividend yield has lost its predictive ability over time, the payout yield has remained a robust indicator for excess stock return.)
First, adjust to current market conditions that are the result of structural change (SEC rule 10b-18). Or, two, do nothing. So far, I have seen no evidence of change. There seems to be almost the same reverence for dividends as there is in certain trend following circles. . .Ohmmmmm….Ohhmmmmmm….
Some background posts on payout yield can be found here and here. I am going to start running a strategy based on payout yield for the DOW stocks for a personal account. I completed a quick and dirty calculation from trailing 12-month data from Yahoo. Below are the top 10 payout yield stocks and linked on Stockpickr. I used net payout yield:
Net Payout Yield = $ spent on dividends + $ spent on share repurchases – $ spent on share issuances
The average dividend yield for the group is 2.3%.
The average net buyback yield for the group is 3.21%.
The average net payout yield for the group is 5.51%.
HON
DIS
HD
MSFT
PFE
XOM
MMM
HPQ
JPM
PG
PS – It seems someone else has found utility in Payout Yield – does anyone know the ghost behind the site (sponsored by the WSJ)?
Red Herring reports that the owner of pharmacy.com is looking to fetch $50M for his domain. Wow. Then again, business.com went for $350M. . .
Seeing as Merrill Lynch, Goldman Sachs, J.P. Morgan Chase, IndexIQ, Stonebrook Structured Products, State Street Global Advisors, and Deutsche Bank AG are ALL launching hedge fund clones, don’t you think one of them would pick up my domain www.hedgefundclone.com for a measly few million?
Here is a great PDF from James Montier (Global Equity Strategy at Dresdner) describing his favorite investment books. I picked up a couple I had never heard of for some end of Summer beach reading. . .
The Robot’s Rebellion: Finding Meaning in the Age of Darwin
Psychology of Intelligence Analysis
A recent article in the WSJ, “Why Harvard is Smarting“, takes a look at a hedge fund investment gone bad. I have blogged numerous times on the outstanding track records of the top university endowments, Harvard and Yale. (You may also want to check out a similar previous post on comparing a simple asset allocation to the hedge fund indices.)
In an update to the seminal text on asset allocation, Darst adds a new chapter (the 2nd) in his book on the endowments. I decided to update some tables with side-by-side performance of the endowments vs. a general asset allocation portfolio, all with fiscal year end of June 30th.
Also, with all the chatter on the pros and cons of rebalancing, I included various rebalancing periods. No fees, taxes, or commissions are deducted.
The first table below shows that the endowments generate about 400 bps of alpha over a standard asset allocation (20% each in the S&P500, MSCI EAFE, 10 Yr US Govt Bonds, NAREIT, and GSCI). All are total return series. It looks like rebalancing produces the best returns at the yearly time frame. (Although not listed, the drawdowns are roughly half that of the non-rebalanced.) So does it make sense to rebalance? Likely, but with tax and cost considerations in mind.
How about the timing model, what is the ideal rebalance period? Again, yearly looks to be best, and does a fine job of approximating the risk-adjusted returns of the endowments.
To target similar returns of the endowments (who invest in alternatives that use leverage), we examine the yearly rebalance leveraged by a third (at commercial paper rates) and find that the results are near identical to the results of Harvard, but still lagging Yale by about 100bps.
Example ETFs of asset classes mentioned in the article are SPY, EFA, AGG, IYR, and GSP.
Let’s exclude all the historical data that would impact our strategy the most negatively, that way we can peddle the system on an unsuspecting public. BRILLIANT!
A spokesman from the CBOE sent me this note in response to why the CBOE didn’t include pre-1988 results in their option selling indices. I disagree completely of course (especially with the last paragraph). I did a quick calculation and found that the yearly returns of the two indices are over 97% correlated.
“Dear Mr. Faber
The inception date of the PUTWrite index (June 1988) was selected to match the inception date of the BXM in order to provide a better comparison of their relative performance.”
Ok. Why did the BXM start in 1988?
“Daily prices are provided in an historical return series for the BXM Index beginning June 1, 1988 (the first day that Standard and Poor’s began reporting the daily cash dividends for the S&P 500 index portfolio) up through the present time. The daily prices are available at www.cboe.com/bxm, and from quote vendors that provide options data.”
How about monthly data?
“The BXM is calculated daily by compounding at the daily rate of return and this rate incorporates whatever dividends went ex that day. Spreading monthly dividends over the days of the month would have produced a less accurate rate. That was the deciding factor.
But also note that it is common practice in academic papers to exclude the fall of 1987 precisely because it was such an extreme tail event. I concur with this point of view because I believe that an event of this magnitude is unlikely to reoccur given all the circuit breaker mechanisms put in place in 1989. Including 1987 would almost surely provide a less informative picture of likely future performance.”
A recent article in BusinessWeek highlights a topic readers of World Beta have been privy to for some time – that following the top investors can lead to abnormal returns. Another paper, “The Investment Value of Mutual Fund Portfolio Disclosure“,tackles the subject.
ABSTRACT
This paper uses disclosed mutual fund portfolio holdings to develop stock selection models. Our models aggregate portfolio holdings across mutual funds, weighted by their past performance, to predict future stock returns — an overweighting by successful managers, or an underweighting by unsuccessful managers is considered to be a signal that a stock is currently underpriced. We find that investment strategies based on our stock signals generate returns exceeding seven percent during the following year, adjusted for the size, book-to-market, and momentum characteristics of the stocks. This evidence suggests that some managers have superior stock-selection skills, and that these skills strongly persist. Further, returns generated from our mutual fund holding-based strategies have a low correlation with those of 12 quantitative investment signals that are based on prior-documented market anomalies. Thus, our stock selection signals are unique, and indicate that some fund managers possess private skills that are unrelated to known anomalies.
In another paper titled, “Value Creation or Destruction“, the author finds that activist investors return more than passive investors. . .I imagine the best way to follow the activist funds would be to track them daily from position inception rather than quarterly (the way I have been doing it). I plan on discontinuing tracking the activist portfolio, as I do not want to update it regularly. 13D Tracker (blog) and 13D Monitor (subscription, $1250/month) both focus on the space.
ABSTRACT
I examine the effects of shareholder activism by hedge funds from 1998-2005. When hedge funds accumulate more than 5% of a firm, they must file a regulatory disclosure with the SEC that indicates whether their intentions are active or passive. I find that firms which are targeted by hedge funds for active purposes earn larger excess returns than a control group of firms that are targeted by the same hedge funds for passive purposes. Firms targeted by activists experience increases in operating performance (ROA) following the acquisition of the block. These operational improvements appear to be driven by the divestiture of underperforming assets. I document that the returns to the hedge fund are larger for their active blocks than their passive blocks, indicating that activist shareholders may use higher returns to mitigate the cost of their monitoring effort.
I REALLY like this paper. Looking for extra information at the extremes makes more sense to me than just decile stats. Here is the AlphaLetters Journal review, and if you would like more in-depth analysis, check out the always thorough CXO Advisory. The author’s website can be found at Improving the P/E Ratio.
Category: Value, Extreme value measure
Title: Extreme Returns From Extreme Value Stocks: Enhancing the Value Premium
Author: Keith Anderson; Chris Brooks
Source: The Journal of Investing, Spring 2007
Link: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=739667
Abstract: Investigations into value-based ‘anomalies’ such as the P/E effect typically sort shares into quintiles, or at most deciles. These are blunt instruments. We test whether most of the extra value in the lower end of the P/E spectrum is to be found in the very lowest P/E shares, and whether the worst investments reside in the few shares with the highest P/E. Using a long-term definition of earnings, and attributing influences on the P/E to company size and sector, we find that small portfolios of value shares give returns of 40%+ per annum, while small portfolios of glamour shares give returns less than the risk free rate. We thus show that by more judicious use of the P/E ratio, we can considerably enhance the value premium.
I’m a big fan of Marc Faber, and not just because we share a great surname. I especially enjoy reading his Barron’s roundatable interviews – he always seems to have quirky picks that are usually spot on (sometimes spectacularly so). Seriously, how many other market gurus do you know that have a lifestyle tab on their webpage?
One of his picks this year was volatility. The VIX is up roughly 15% today, and nearly 100% for the year. (I also like that he picked farmland – can you see Cohen making such a pick?)
In February I penned a post titled, “Got That Sinking Feeling?“. The equity markets were down 3-4% on the day. We experienced a fairly similar scenario today, and here is how five general asset classes performed:
Not so good. How about the listed alternatives? Below you can see that the majority of these funds don’t do a good job of hedging on a down day. The market neutral funds had a pretty good showing. Hussman had a (relatively) good day, but he has been bearish and underperforming for quite some time. I have yet to witness the Sabrient Defender ETF defend against anything on a down day so far this year. Managed futures did OK, currency harvest did awful, and of course the bear funds had a stellar day.
Still, it looks like most of these funds are heavy in the equity risk department. (By the way, if anyone can poke a hole in this nice-looking liquidation play, let me know.)
