Monday, May 11, 2009

More Quants In The Spotlight

Alpha magazine is out, albeit with about a month delay for frequent Zero Hedge readers, with an article that follows in the footsteps of WSJ's expose from earlier, focusing on the belated topic de jour of quantitative funds. In "Stat Arbitrageurs: Merchants of Volatility", Alpha has done a nice job of rephrasing the arguments that Zero Hedge has been disecting since mid April. Better late than never, especially when the spectre of another August 2007 is constantly just around the corner (and even closer if one reads between the lines of certain quant performance numbers that have been posted here lately).
“Stat arbs take the other side of a move,” Sunier says. “We provide liquidity. If it’s a good time to do that, we earn an economic rent as prices return to normal.”


It’s a dramatic turnaround for a strategy that had been all but left for dead after the summer of 2007. During the first two weeks of August that year, statistical arbitrageurs — including major players like AQR Capital Management, D.E. Shaw & Co., Goldman Sachs Asset Management and Renaissance Technologies Corp. — suffered huge losses. Goldman’s once–$5 billion Global Equity Opportunities Fund, for example, was down 30 percent; the then–$1.7 billion Highbridge Statistical Opportunities Fund fell 18 percent. For managers like Goldman and Highbridge that were able to hold on, performance snapped back later that month, but those that were forced to liquidate missed the rebound. In retrospect the crippling losses were more the result of margin calls that originated in the credit markets than of any flaw in statistical arbitrage theory, according to Andrew Lo, a finance professor at the MIT Sloan School of Management.

“There was some kind of unwinding, most likely due to a multistrategy fund that needed to raise cash to meet margin calls for other investments,” says Lo.

Investors nonetheless were spooked and took flight. Judith Posnikoff, a managing director and co-founder of Pacific Alternative Asset Management Co., an Irvine, California–based firm that manages about $9 billion in funds of hedge funds, estimates that between one third and one half of the hedge fund capital dedicated to statistical arbitrage had fled the strategy by early last year. At the same time, proprietary trading desks at many of the big investment banks also got out of the game. The exodus set the stage for a rebound in 2008. Lo points out that stat arbs tend to be long volatility, which shot up to record levels in the fourth quarter of 2008.
While the article will be mostly a recap of themes Zero Hedge has expounded upon extensively, I recommend readers take a quick look at it for an efficient 30,000 foot summary of topics that are sure to become much more relevant before all this is over. Sphere: Related Content
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