A week of banking turmoil is sparking a rout across the systematic-investing world akin to the Covid-era disruption, hammering quants who were just finding their feet after a challenging start to the year.
(Bloomberg) — A week of banking turmoil is sparking a rout across the systematic-investing world akin to the Covid-era disruption, hammering quants who were just finding their feet after a challenging start to the year.
Trouble at Credit Suisse Group AG — on the heels of regional banking disorder in the US — is hitting popular rules-based trades as investors bet the crisis foreshadows an end to Federal Reserve policy tightening.
While the direct link between rates and quant strategies is much debated, in the past few sessions bonds have surged, cheap stocks struggled and megacaps have been resurgent — market conditions that go directly against how many programmatic trades are currently set up.
Last week was the worst since spring 2020 for a Bloomberg index tracking the value strategy, which bids up stocks that are cheap by some measure. It was the same for a Societe Generale SA gauge of alternative risk premia, which tracks factor investing across asset classes.
Trend-following quants that trade futures across assets, known as commodity trading advisors, had it even worse, posting the steepest drop since 2018.
“There are some pretty nasty numbers from the last couple of days,” said Michael Harris, president of Quest Partners LLC, a $2.7 billion CTA that rides short-term trends. “One of the big positions that has only begun to get unwound in our space is the large concentration of shorts in global fixed income.”
Harris reckons that has further to go if bonds continue to rally. Quest has turned neutral in fixed income, gone long on gold and short on global stocks and energy, he said.
Overall, the cohort is likely to catch a break Monday as risk appetite recovered and strategies like value jumped.
Yet the tumult is already raising big questions for Wall Street’s math-driven cohort, who famously struggled through the era of low rates and a one-way bull market powered by Big Tech stocks. Quants were resurgent in the last two years as rampant inflation created new currents across markets and the dominance of a few megacaps began to ebb.
After a painful start to the new year, given the sudden boom in market bets that the Fed was done with its hiking regime, systematic traders were back to their winning ways of late.
Now the demise of Credit Suisse so shortly after Silicon Valley Bank and two other US lenders collapsed is fueling doubts over the resilience of the global economy. Many investors sense a turn in the monetary cycle.
In stocks, the recent flight to safety favored Big Tech names like Alphabet Inc. and Microsoft Corp. — a cohort that quants are less exposed to almost by definition, since they like diversified portfolios. An equal-weighted version of the S&P 500 posted its worst week versus the capitalization-weighted index since March 2020, meaning that the largest stocks generally did better.
Meanwhile, investors have been ditching risk. A Bloomberg index that targets the leverage factor across US stocks — or companies that are highly indebted — slid the most since April 2020 last week.
Even funds deploying multiple different factors across equities struggled. The AQR Equity Market Neutral Fund and Jupiter Merian Global Equity Absolute Return Fund both posted their worst weeks since June, data compiled by Bloomberg show.
For Christopher Harvey and his team at Wells Fargo, even if the Fed slows tightening, it is time to rotate into less cyclical stocks with longer durations.
“If the Fed signals a material pause this week, it would be a near-term plus for risk markets,” the analysts wrote in a Monday note. “The anticipated capital issues and the behavior impact from the banking stress will likely spill over to the economy.”
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