These investment factors also tell us something about future economic growth. Size returns have a positive prediction on growth while quality has the opposite sign. On the other hand, value and momentum have less predictive power concerning future GDP. Nonetheless, value has additional predictive information beyond market returns. These market signals have actually strengthened since the GFC as noted in the second conditional panel.
Disciplined Systematic Global Macro Views
"Disciplined Systematic Global Macro Views" focuses on current economic and finance issues, changes in market structure and the hedge fund industry as well as how to be a better decision-maker in the global macro investment space.
Wednesday, January 27, 2021
Factor returns and the economic cycle - Performance will flip on changes in macro expectations
These investment factors also tell us something about future economic growth. Size returns have a positive prediction on growth while quality has the opposite sign. On the other hand, value and momentum have less predictive power concerning future GDP. Nonetheless, value has additional predictive information beyond market returns. These market signals have actually strengthened since the GFC as noted in the second conditional panel.
Thursday, January 21, 2021
Commodity super-cycle fever is here but shorter-term considerations should drive investment decisions
- Weak investment in production especially for extraction commodities which cannot be easily reversed in the short-run;
- Excesses in demand caused by long-term secular trends in growth that usually involve demographic shift such as the ascent of China as an economic engine or the overall growth in emerging markets;
- Shocks that disrupt shorter-term global supply chains but also have impact across more than one growing season;
- Loose credit conditions for an extended period as signified by a declining dollar and the desire by investors to hold real assets as inflation protection.
Wednesday, January 20, 2021
Dispersion in CTA returns and small managers again lead with strong performance in 2020
When you slice the entire dataset based on performance for all CTA and quantitative macro managers, the numbers become more interesting. The average is 4.27 percent return which is almost 60% higher than the selected large managers. If we look at the top decile of performance, the 2020 average return is 30.96% or over 10 times higher than the returns for the large managers. Only 8 of 23 (35%) managers in the top decile are above $100 million in AUM and only 4 of 23 (17.5%) are in our large group category with AUM above $400 million. This top decile has a standard deviation that is about 40% higher than the large group. There is more risk-taking, but returns are significantly higher.
The small managers proved to be nimble in 2020 and again suggests that investors should not be focused on just the largest managers for return generation. Nevertheless, the investor has to be careful about taking on the added business risk from a small firm which may not have the same set of controls and infrastructure versus larger managers. Of course, the real question is whether these high performing managers will show persistence or just be one-hit wonders.
Tuesday, January 19, 2021
Resilience engineering - Concepts that can be applicable to asset management
Some important concepts in other fields often provide useful insights for asset management. For example, there is a clear trade-off between optimality and brittleness associated with engineering. The best optimized solutions may not accommodate large shocks, frequent change, and uncertainty. A model may break after the first time market conditions change from the period used for testing and training. An over-optimized model may be fragile. For quants, this is the problem of overfitting. A system that is overfit to the past will provide a great result on past data but will deviate from expected performance or break once there is new information or there is a change in market sentiment not seen in the past.
Investors need models or processes that is resilient. Taleb would call this anti-fragile, but his idea or term has not gained acceptance as a structural requirement from the viewpoint of the model builder.
Erik Hollnagel, a Scandinavian expert in the fields of resilience engineering, system safety, and cognitive systems engineering, developed the key features or cornerstone concepts behind resilience which have relevance for all investment and hedge fund management. A resilient system or model should have the following four skills:
- the ability to react when new information is encountered;
- the ability to effectively monitor the environment to identify the current regime and any shift to a new environment;
- the ability to anticipate change in regimes or in responses to market events;
- the ability to learn from mistakes and learn from the environment faced as new information is acquired.
- learning to live with uncertainty - uncertainty is not feared but addressed in a consistent manner;
- maintaining internal diversity - there is not just one solution or approach but a combination of approaches that can be reweighed based on changes in the environment;
- combining different types of knowledge - single paths or threads to problem solving will create brittle systems so alternative data and points of view are incorporated for flexibility;
- create opportunities for self-organization - some form of information organization that weighs factors that impacts predictions.