Managing Your Portfolio in an Extreme US Factor Environment Point … · long-short portfolio with an exposure of 1 to the factor in question and no exposure to any other factor

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Managing Your Portfolio in an Extreme US Factor Environment

March 25, 2020


Today’s Presenters

Chris CanovaHead of the Customer Experience Group, Qontigo

Omer CedarCEO & Co-Founder, Omega Point

Leon SerfatyProduct Specialist Director, Qontigo

Melissa BrownManaging Director, Applied Research, Qontigo

Moderator: Hosts:


Factor Returns and Their Impact on Industry and Factor Correlations – Driving Changes in Portfolio RiskMelissa Brown, Qontigo


STOXX USA 900: Risk Was Rising in Advance of the Peak…But Then Ballooned

8%

9%

10%

11%

12%

8%

13%

18%

23%

28%

33%

38%


STOXX USA 900: Total Risk and its Components

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

5%

10%

15%

20%

25%

30%

35%

40%

Jan Feb Mar

Total Market

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

0%

1%

2%

3%

Jan Feb Mar

Style Industry Specific

All components were up, but style

risk rose dramatically


Asset Level Specific Risk Changes – February

Period (Feb 1 - Feb 28)

Count % of Index

Large Moves 19 2.11%

Symbol Description Specific Risk Delta Relative Delta

MRNA MODERNA INC 101.41% 49.55% 95.53%

SABR SABRE CORP 39.59% 21.09% 114.00%

AAN AARONS INC 50.73% 19.83% 64.20%

DPZ DOMINOS PIZZA INC 41.58% 19.81% 90.99%

S SPRINT CORPORATION 42.57% 17.08% 67.02%

DBX DROPBOX INC 43.09% 15.99% 59.00%

NTNX NUTANIX INC 64.19% 15.73% 32.47%

QRTEA QURATE RETAIL INC 57.43% 15.66% 37.48%

FLIR FLIR SYS INC 29.39% 14.40% 96.03%

PLAN ANAPLAN INC 43.47% 13.36% 44.38%

REGN REGENERON PHARMACEUTICALS 34.06% 12.71% 59.57%

SAGE SAGE THERAPEUTICS INC 59.02% 11.60% 24.45%

PANW PALO ALTO NETWORKS INC 36.85% 11.50% 45.37%


Asset Level Specific Risk Changes – March 1st through 20th

Period (Feb 28 - March 20)

Count % of Index

Large Moves 410 45.56%

Symbol Description Specific Risk Delta Relative Delta

TRGP TARGA RES CORP 77% 56% 267%

CNK CINEMARK HOLDINGS INC 76% 49% 178%

CY CYPRESS SEMICONDUCTOR CORP 68% 48% 231%

AL AIR LEASE CORP 64% 47% 293%

NCLH NORWEGIAN CRUISE LINE HLDG L 71% 45% 171%

RHP RYMAN HOSPITALITY PPTYS INC 65% 45% 215%

PFGC PERFORMANCE FOOD GROUP CO 65% 42% 181%

USFD US FOODS HLDG CORP 59% 42% 237%

MTN VAIL RESORTS INC 57% 39% 214%

CPRI CAPRI HOLDINGS LIMITED 65% 38% 144%

WYND WYNDHAM DESTINATIONS INC 53% 37% 234%

WPX WPX ENERGY INC 64% 36% 126%

OKE ONEOK INC NEW 51% 35% 224%

COG CABOT OIL & GAS CORP 63% 35% 121%

OXY OCCIDENTAL PETE CORP 58% 34% 143%

RCL ROYAL CARIBBEAN CRUISES LTD 56% 34% 151%


Source: Omega Point Platform






Style Factor Returns Have Been Unusually Large…

-25%

-20%

-15%

-10%

-5%

0%

5%

10%

“Pure” Style Factor Returns

2/20 to 3/19/2020 10/9/2007-3/5/2009

Note: These returns from Axioma’s medium-horizon US4 model are “pure”, in other words they are returns to a long-short portfolio with an exposure of 1 to the factor in question and no exposure to any other factor.

Most returns are not yet as large as in the last bear market

But returns were three to 10 standard deviation events

Source: Axioma United States Equity Factor Risk Model (AXUS4)


…And Some Changes in Volatility Have Been Larger Than in the Entire Last Bear Market

0%

50%

100%

150%

200%

250%

300%

350%

Change in Volatility

2/20 to 3/18/2020 10/9/2007 to 3/5/2009



It Has Been Tough for Value and Earnings Yield This Time

-10%

-9%

-8%

-7%

-6%

-5%

-4%

-3%

-2%

-1%

0%

1%

1

19

37

55

73

91

10

9

12

7

14

5

16

3

18

1

19

9

21

7

23

5

25

3

27

1

28

9

30

7

32

5

34

3

Days from market peak

Value

-5%

0%

5%

10%

1

19

37

55

73

91

10

9

12

7

14

5

16

3

18

1

19

9

21

7

23

5

25

3

27

1

28

9

30

7

32

5

34

3


Earnings Yield



Value Is Most Associated with the Energy Sector Today, While it Was Banks and Homebuilders in ‘08



Both Low Beta and Low Volatility Have Fared Better, Similar to 2007-2009

-25%

-20%

-15%

-10%

-5%

0%

5%

10%

1

19

37

55

73

91

10

9

12

7

14

5

16

3

18

1

19

9

21

7

23

5

25

3

27

1

28

9

30

7

32

5

34

3


Volatility

-20%

-15%

-10%

-5%

0%

5%

10%

1

19

37

55

73

91

10

9

12

7

14

5

16

3

18

1

19

9

21

7

23

5

25

3

27

1

28

9

30

7

32

5

34

3


Market Sensitivity



More Profitable and Low Momentum Companies Have Done Better

-5%

0%

5%

10%

1

19

37

55

73

91

10

9

12

7

14

5

16

3

18

1

19

9

21

7

23

5

25

3

27

1

28

9

30

7

32

5

34

3Days from market peak

Profitability

-5%

0%

5%

10%

1

19

37

55

73

91

10

9

12

7

14

5

16

3

18

1

19

9

21

7

23

5

25

3

27

1

28

9

30

7

32

5

34

3


Medium-Term Momentum



Finally, Large Cap Has Trounced Small Cap This Go-Round

-20%

-15%

-10%

-5%

0%

5%

10%

11

32

53

74

96

17

38

59

71

09

12

11

33

14

51

57

16

91

81

19

32

05

21

72

29

24

12

53

26

52

77

28

93

01

31

33

25

33

73

49


Size



Size Is Most Correlated with the Tech Sector Today, While it Was Far More Diversified in ‘08



Profitability’s High and Leverage’s Low Return Meant Dramatically Changed Correlations

-0.8

-0.6

-0.4

-0.2

0

0.2

0.4

0.6

Jan Feb Mar

Profitability vs. Specialty Retail

Profitability vs. Leverage

Profitability vs. Textiles, Apparel & Luxury Goods

Profitability vs. Pharmaceuticals

Profitability vs. Biotechnology


-1

-0.8

-0.6

-0.4

-0.2

0

0.2

0.4

0.6

0.8

1

Jan Feb Mar

Leverage vs. Water Utilities

Leverage vs. Marine

Leverage vs. Hotels, Restaurants & Leisure

Leverage vs. Diversified Consumer Services

Leverage vs. Mortgage REITs


Some Factors Have Decoupled, While Others Became Much More Correlated

-0.6

-0.4

-0.2

0

0.2

0.4

0.6

0.8

Jan Feb Mar

Earnings Yield vs. Banks Earnings Yield vs. Chemicals

-0.8

-0.6

-0.4

-0.2

0

0.2

0.4

0.6

Jan Feb Mar

Market Sensitivity vs. Machinery

Market Sensitivity vs. Elec Equip, Instr & Comp

Market Sensitivity vs. Air Freight & Logistics

Market Sensitivity vs. Equity REITs

Market Sensitivity vs. Growth

Market Sensitivity vs. Medium-Term MomentumSource: Axioma United States Equity Factor Risk Model (AXUS4)


Market, Factor and Specific Risk Summary

> Top-line risk has jumped substantially, with all components of risk experiencing the increase

> The magnitude of factor returns has been high, and often in the “wrong” direction

> Some industries have also seen very high or low returns

> All of these impacted not only portfolio active returns, but also the level and allocation of active risk

> But…the story is not only about volatility and correlation


Runaway Beta: How Quickly Industry

Exposures and Risk Profiles Are Changing

Omer Cedar, Omega Point


What Is the Market Sensitivity Factor?

> One of 13 Style factors in Axioma’s US4 Fundamental Risk Model

> Explains the return associated with differing levels of sensitivity to the general market

> Standardized Rank of all stocks in a market on a time-series regression vs. the local market portfolio

> Stocks with a Beta of 1 typically have an exposure of 0 to this factor

> Short Horizon model uses 125-day rolling window of returns in regression

> First and last 10 return observations are down-weighted to maintain exposure stability

> Market Sensitivity exposures have been changing rapidly in this environment as the market portfolio has made large moves trending downward


Similarly To ‘08, Higher Beta Stocks Have Sold Off in a Short Period of Time

Source: Omega Point Platform, Axioma United States Equity Factor Risk Model (AXUS4)


But What Is High Beta vs Low Beta?



Travel and Autos Have Jumped to Become the Highest Beta Industries



While Historically Higher Beta Industries Such as Biotech, Semi-Equipment, Machinery, Marine, and Electronics Have all Become Lower Beta



And industries such as Restaurants, Household Durables, and Mortgage Reits Have Caught Low-Beta Investors by Surprise



Market Sensitivity Exposure: PRTY



Market Sensitivity Exposure: PLAY



Case Study: Adding Alpha by Subtracting Beta(Updated)

Leon Serfaty


Portfolio Characteristics

US Only Long/Short Market Neutral Portfolio

> Approximately 50 names long, 50 names short

> Net exposure typically between +5 to -5% of NAV

> Beta to Broad market target = ZERO

> Risk model typically not used in portfolio construction


Problem: Dollar Neutral ≠ Market Neutral ≠ Factor Neutral

> Net zero dollar exposure is not the same as being beta-neutral

> Beta-neutrality using sensitivity to an index doesn’t necessarily ensure factor neutrality

> “Beta” is an oversimplification of systematic risk- we know “the market” is more than a unitary factor

> This is how multi-factor models add value over CAPM!


Problem: Dollar Neutral ≠ Market Neutral ≠ Factor Neutral

Source: Axioma Portfolio OptimizerTM


De-Risking but Adding Exposure

> As the market sank, this manager lowered gross and net exposure

> As an example, manager was net long 5.4% Specialty Retail on 2/12

> Was net short Specialty Retail -5.4% on 3/6

> Market Sensitivity partial exposure from the sector increased from 0.015 (neutral) to 0.2 as this flip in exposure occurred!



Performance Attribution 2/6 to 3/13



Experiment: Simple Optimization

> Manager was not achieving desired result of being market neutral

> Can we rebalance the portfolio daily keeping the gross and net exposures the same, but reducing the drag from factors we don’t want exposure to?

> Objective:

> Minimize Predicted Risk from Factors

> Constraints:

> Increase/decrease positions by no more than 50% (0.5 to 1.5x current size)

> Limit position size to +/- 4.8% NAV

> 5% ADV max

> 15% total turnover limit

> No change to gross or net exposure


Experiment: Results- Performance



Experiment: Results- Risk



Experiment: Conclusions

> In this environment, factor volatilities, correlations and asset exposures to factors are all changing rapidly- this indicates the Short Horizon model should be consulted

> PMs may need to increase rebalancing frequency to keep up with the changing environment

> “Signal to Noise” ratio can be increased by minimizing ex-ante factor risk

> If the manager has positive alpha, it can be preserved while reducing factor drag from incidental bets


Summary

> In the recent period, investors have experienced unusually big returns, changing volatilities and suddenly high or low factor correlations

> At the same time, stocks’ exposures have changed substantially

> All these components led to potentially big changes in active portfolio risk as well as higher drag from unintended bets

> An experiment that allowed the manager to maintain alpha while reducing unintended bets resulted in higher returns and lower volatility

> Managing those bets is not just a good idea in times of unusual market stress


Looking for Additional Resources? Here are Some Samples

Insights from Qontigo

> Blog Post: Quant Quake 2020? As Factor Volatility Mirrors Market Volatility, Most Returns Head in the Wrong Direction

> Blog Post: Quant quake comparison? This looks worse

> Qontigo Commentary: Coronavirus’ Impact on Markets

Insights from Omega Point

> Blog Post: Inoculating Against Runaway Beta

> Blog Post: Diving Deeper into Runaway Beta: The Changing Characteristics of Key Industries

> Blog Post: Flash Update: Coronavirus and its Impact on Geopolitical Risk

https://axioma.com/blog/post/quant-quake-2020-as-factor-volatility-mirrors-market-volatility-most-returns-head-in-the-wrong-direction/

https://axioma.com/blog/post/quant-quake-comparison-this-looks-worse/

https://www.axioma.com/coronavirus/

https://blog.ompnt.com/inoculating-against-runaway-beta

https://blog.ompnt.com/diving-deeper-into-runaway-beta-the-changing-characteristics-of-key-industries

https://blog.ompnt.com/flash-update-coronavirus-its-impact-on-geopolitical-risk


Contact Us

Qontigo

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Website: www.qontigo.com

Omega Point

Email: [email protected]

Website: www.ompnt.com

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http://www.qontigo.com/

mailto:[email protected]

http://www.ompnt.com/


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Managing Your Portfolio in an Extreme US Factor Environment Point … · long-short portfolio with an exposure of 1 to the factor in question and no exposure to any other factor