Quant crisis. [kwont] [krisis] Origin: In August 2007 a host of quant-driven hedge funds experienced losses on the back of the subprime crisis and a series of margin calls. This led to a ripple effect causing losses across various quant strategies and would become known as the ‘quant crisis’ or ‘quant scare’ of 2007.
And might be (sort of) back, according to Morgan Stanley quant strategist Charles Crow. He thinks there’s been some rather significant volatility in quant-driven portfolios in recent weeks, which has shades of late summer 2007.
From the latest edition of the bank’s Quant Times:
Recent substantial factor movements in Europe have contributed to portfolio volatility and, in some cases, abrupt performance degradation. Portfolios positioned to take advantage of prevailing factor trends may have suffered substantially over the last two weeks.
These rapid and significant reversals of factors returns have caught many investors – quant and fundamental managers alike – on the wrong side of a trade. The broad rotation also raises the question whether this represents the beginning of a secular shift back into Value at the expense of Momentum, Quality and Growth. Alternatively, the rotation may signify an idiosyncratic quant portfolio rebalancing in a market of relatively low liquidity.
We first seek to place the recent factor returns in a historical context. Exhibit 1 presents the weekly cumulative factor performance over the first three weeks in January. The fundamental factors span major investment styles, including Value, Growth, Momentum, Financial Leverage, Quality/Profitability and Free Cash Flow. To appreciate the recent rotation, also included is the cumulative performance of each factor over the entirety of the 2010 fourth quarter.
… The magnitude of weekly factor performance is striking and, in some cases, exceeds absolute factor performance over the entirety of 4Q10. Quant portfolios positioned to exploit recent Style trends – portfolios potentially long Quality (e.g., ROI), Growth (e.g., 1-Yr Est. EPS Growth), and Momentum (e.g., 12-Mth Price Momentum) – have endured violent reversals in many underlying positions …
All of this factor turbulence was realized in a range-bound equity market. Despite the recent increase in realized volatility, absolute levels remain historically low and expected short-term volatility has declined over the last ten sessions … The VStoxx Index, which measures the cost of protecting against a decline in the Euro Stoxx 50 Index, declined 3.1% over the week of January 17.
Thus, market conditions over the last two weeks are somewhat reminiscent of that during the August 2007 ‘Quant Crisis’. In only a few days, a number of quantitative long-short equity funds experienced unprecedented losses in seemingly ‘normal’ market conditions. We do not suggest here that the magnitude of hypothetical losses match those from 2007, however, there is little question that the rotation has drawn attention of many quant investors.
It’s worth remembering at this point that the quant crisis of 2007 was really a broad-based hedge fund trauma. And as our amiable hedgie correspondent, Sam Jones, tells us, he hasn’t heard anything about funds struggling with this. Man Group’s AHL fund — a pretty good proxy for quant performance — has also reported a relatively stable performance in the last available week (to January 21).
So probably more new year ‘search for strategy’ than quant cataclysm.
So far, anyway.
Related links:
Why volatility could spike – Barron’s
‘A new ear of Treasury price volatility’ – FT Alphaville