Tuesday, April 14, 2009

Merrill Let Loose On The Quant Scent

In a report released yesterday, it is somewhat gratifying that Merrill Lynch analyst Mary Ann Bartels agrees with Zero Hedge conclusions about possible near-term market volatility events as a result of quant fund deleveraging.
Estimated quant HF market exposure falling sharply

Last week, we noted that our estimate of hedge fund exposure based on factor based analysis suggested L/S HF market exposure may have peaked in the second half of March (top left chart below), after increasing significantly from the record lows of mid-December, and the sharp rise in large speculators’ net long position in S&P 500 futures was a possible hedge. The reduction in market exposure is even more evident among quantitative funds (top right and bottom left charts). Quant fund market xposure appears to have peaked in Feb, but started to fall rapidly in late March, a couple of weeks into the current equity rally. Quant funds, not surprisingly, are down ~-1.9% over the last month. US L/S equity funds have been able to capture more of the month-long move up in equities, gaining 1.3%. But both categories of funds are now pulling back.

The reduction in market exposure may be in part due to quarter-end rebalancing of books, but the readings could be important for two reasons. First, a sharp fall in beta could be a contrarian bullish for equities if HFs are forced back in. Secondly, HFs are an important source of liquidity for the markets - particularly true of quant funds employing high-frequency algorithmic and programming trading strategies. A big drop in HF presence in the equity markets could result in rising volatility.

Significant estimated factor exposures for Equity Market Neutral funds:
  • M/N funds’ market exposure further underweights equities.
  • Growth, large caps and high quality tilts. Positive inflationary expectations.
Significant factor exposure changes since last week:
  • Market exposure continues to decline rapidly.
  • Large caps and High quality tilts rise. Inflationary expectations increase.

And lastly, another chart, this time depicting the Dow Jones Equity Market Neutral Index (DJHFEQMK). Not lookin' too hot.

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ts said...

I'm sure a good chunk of the monetary stimulus is ending up in HF across the board, especially considering so many BHC or other non-banks are getting access to funds.

As you pointed out with Goldman earlier, some places that didn't need the money will still take it and trade for their own account, but the rest will just dial 1 800 HEDGE ME. If the markets don't create enough drama on their own, keep throwing money that way and we'll manufacture it out of whole cloth.

I'd be interested to see what happens to Goldman's trading principal when they have to start using their own money.

And, damn you guys! Slow down! I can't keep up. You put up two more posts while I typed this!

Anonymous said...

So what does all this mean? Will this cause the market to sell off in the next two weeks, or skyrocket? -confused in MD

Anonymous said...

I'm a bit confused too... TD's recent postings on liquidity have suggested a 'black swan' event coming soon (days to a couple weeks)... this seems to suggest we're almost as likely to go up as to go down. Perhaps the truth is somewhere in between - volatility in either direction will rise, but the present overbought condition makes a plunge more likely?

Anonymous said...

I'm confused too! I know I'm not the brightest bulb on the tree I'm only an engineer with an MBA and have sucessfully run my own company for 12 years. Some of this stuff needs a little explaining. Please?

Anonymous said...

we are going to have a black swan where the market doesn't move more than 1% for two days in a row.

poolparty said...

from a similar rant on liquidity recently, I think the answer was, "draw your own conclusion based on the facts presented"

TD the liquidity issue is a bit confusing, BUT I want to learn more. When I clicked on the link early today with additional reading I was overwhelmed. Any additional explanation is welcomed.

This blog is now referenced on all the other financial blogs I look at. Thanks for being creative and presenting your own research!

James said...

Expect wild swings both up and down. For all we know this thing could drop straight to 500 in 3 weeks.

steak said...

Its totally gut talking here but I think we retrace about 5-7% on the S&P via temporary dollar strength (AUDUSD & BRLUSD double tops) then the shorts get blown out the water and we go up another 30%...at least overlaying our markets now with the nikkei circa 1991 it seems like we'd follow that pattern

Anonymous said...

How to Puff Up Earnings, Goldman Sachs Style
By Barry Ritholtz - April 14th, 2009, 8:07AM

Leave it to the clever boys at Goldman Sachs to turn dross into gold: They have come up with a way to hide massive losses so clever, it requires special comment: The Orphan Month.

Yesterday, we noted that the bulk of their profits had come from AIG transfer payments — the theft from taxpayers AIG 100% payouts funded via bailout monies that saw Goldie as one of the largest recipients. Floyd Norris notes that most of the AIG effect was in December. “For the first quarter, the total A.I.G. effect on earnings was, in round numbers, zero.”

How is it possible that this occurred? Isn’t GS on a December to February calendar? Well, there is a small asterisk about that. It seems that GS is moving from a December to a quarterly calendar. Meaning their latest Q is January thru March.

But what of December, with all t he AIG monies and the comparison to the strong December 2007 and all?

In a word, Orphaned:

Goldman’s 2008 fiscal year ended Nov. 30. This year the company is switching to a calendar year. The leaves December as an orphan month, one that will be largely ignored. In Goldman’s news release, and in most of the news reports, the quarter ended March 31 is compared to the quarter last year that ending in February.

The orphan month featured — surprise — lots of writeoffs. The pre-tax loss was $1.3 billion, and the after-tax loss was $780 million.

Would the firm have had a profit if it stuck to its old calendar, and had to include December and exclude March?

Truly astounding . . . the word Chutzpah simply does not do it justice . .

Anonymous said...

Dear Tyler...does HF stand for: or represent High-Falutin?....your fleecin' grammar, your operational weld is so over-whelmin';please take some more of my money(by mandate) and grease your tight little ass; next time you're in town...please stop by & ask for directions. Amour Sui my emboldened soi-distant; each & every solipism brings you closer to your heart ...till next time. In the meanwhile, please crunch some more alphabetic illusions & stuff them neatly under your safe pillow....don't be alarmed during the nite: that tooth fairy is you.

Anonymous said...

Goldman's slick math and Obamanomics are going to come home to roost here boys. Hold onto your flasks.

Anonymous said...

ZH, can you explain concisely what drove the stock market today?

Retail report was obviously not the prime mover. The market rallied big off its lows after the report was issued.

Goldman's offering? Why would that apply to all financials? Because market fears other banks will follow suit? Still, does that really explain the enormous decline in GS, all banks, and the broader market? Especially after GS's better than expected bottom line results? (I know, their results have holes, but doesn't big upside earnings and revenue surprise count for anything?)

Bottom line -- what the hell really happened today?

Nick L said...

So with upcoming volatility what does everyone think about buying VXX?

Anonymous said...

IMO, it means the liquidity that everyone thinks is putting a floor under the market is nonexistent. I think the last 2 days of very low volume are evidence suggesting there is no one to buy, but the long holders aren't worried yet. Bear market rallies die in low volume, as they say. If the pattern of the last few days continues, market declines will force more people to act with respect to their positions. Get down enough and people will start to panic towards the exits.

Bulls are delusional thinking they can short squeeze to S&P 1000. The money doesn't exist. As the equity markets go up, it takes more and more money to keep them going up.

One more thing, the short sale ban lasted from Sept 19 to Oct 9. The market "bottomed" at S&P 839 on Oct 10. We haven't gone anywhere for 6 months. The down move in February was shorts who missed the first down move, thanks to the government, getting short. They set themselves up to get squeezed, and in the second half of March they did. We have just churned. The big money has yet to commit to anything. Part of the problem is that the big money is the banks, and they are insolvent. They haven't had to sell anything because they are on the government dole.

Also, gold hasn't moved for over a year. Treasuries have been in a 27 year bull market. None of this will continue.

Anonymous said...

TD & Co.

So do we have an answer to this, to wit, does this drive the market in a certain direction, is it more likely one way or another, or is it about even that it could cause a drive up and drive down.

My understanding from reading all of these posts is that this is more likely to drive the market down, if an event is to happen.

Any thoughts/additional guidance on that would be appreciated.

Anonymous said...

Anyone dropping money on FAZ at this point? Now that the financial hogwash has passed (or will this week) will we see banks true value decline? thoughts?

Anonymous said...

SPY 2/3 of average today and EU was open - - thanks TD / ZH for your perspectives.

Anonymous said...

@7:58 PM

This website is gettin' as weird as the market.

Anonymous said...

What does this mean?

It's shop talk. A call to arms amoung the HF's. Hedgies have to unload the stock they couldn't sell off since last September. They need to suck retail in as soon as possible and exchange paper. Key to prove this:

"A big drop in HF presence in the equity markets could result in rising volatility."In English: DRY UP YOUR LIQUIDITY AND WE CAN GET THIS 'BISH TO RISE TO 1000.

On the way to 1000, retail is sucked in and the hedgies cash out.

After that we fall off the cliff.

Anonymous said...

Seriously. And not just cuz of post @7:58. Could be a nugget of gold buried in this site or could be just a big circle jerk. Not quite sure yet.

Anonymous said...

It's a beautiful disinformation site 4sure.

Lots of financial and economic drama.

Anonymous said...

Based on careful analysis of what is being implied here, I have come to the inescapable conclusion that the last 50 years (at least) has been nothing more than a giant pump , and the dump is due within days.

Thanks for the heads up!.

Anonymous said...

'HF' is high frequency. They are funds, or large pools that facilitate extremely large numbers of trades on a daily basis. Somewhere on the order of about 15-30% of daily volume depending on the stock. Their objective is to maintain totally neutral positions/slightly positive. They are allowed to frontrun stocks to pair buyers with sellers.

Ray said...

Nick L.....The VIX is only likely to run up to the 41 area this time around. That should put us in the 750-770 area on the SP. If you are thinking a longer term swing trade wait for the next time around.

Great post Zero Hedge!

Anonymous said...

It would be nice if an occassional question were answered here by the host.

Anonymous said...

This place has turned into a fking yahoo board with complete retards asking what stock to invest in. what a shame

Anonymous said...

haha i love it. flip a coin.