Hedge funds emerge mostly unscathed from Reddit trader drama | Financial Markets News

HamaraTimes.com | Hedge funds emerge mostly unscathed from Reddit trader drama | Financial Markets News

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In a blow to the Reddit crowd taking on the Wall Street elite, the broader hedge fund industry lives to fight another day for now following a week of stock drama.

Even after the worst-ever short squeeze forced professional speculators to deleverage by the most in more than a decade, the smart money is staying invested in the U.S. stock rally with exposure near a record high, Goldman Sachs Group Inc. prime brokerage data show.

Stocks beloved by professional speculators are rebounding, while their most-shorted shares are no longer staging a costly rally. Quant funds тАФ often accused of amplifying sell-offs тАФ have been largely unscathed. Equity volatility is down again and other asset classes barely registered the commotion.

The bottom line? Last weekтАЩs deleveraging was drastic, but concentrated. Beyond the handful of smaller stocks roiled by the Reddit crowd, selling pressure has dissipated.

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тАЬA small set of shorts caused tremendous losses for some hedge funds,тАЭ Michael Gleason and Sean Spaulding at quant firm Acadian Asset Management wrote in a note. тАЬNevertheless, overall gross exposure remains elevated, in fact, near peak levels.тАЭ

The Acadian team estimated that a fund holding the most popular long and shorts would have lost more than 30% last month тАФ but the impact could be much less depending on a managerтАЩs specific exposure.

Hedge funds overall dropped just 0.2% in January, Hedge Fund Research data show. Long-short funds declined 1%, but market-neutral ones тАФ many of which use quant methods тАФ gained 1%.

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Since last week was near the end of January, hedge funds were probably even more keen to cut positions to flatter month-end risk metrics in a process known as тАЬwindow dressing,тАЭ said Nicolas Roth, head of alternative assets at private bank Reyl & Cie. Deleveraging appears to be over now, he added.

In a sign that computer-powered funds didnтАЩt contribute to the swings last week, Acadian pointed out that the cheapest and priciest stocks тАФ hence those that are most affected by the popular value factor тАФ only saw a regular amount of trading during the period.

Among quants that trade index futures rather than single stocks, risk-parity funds and Commodity Trading┬аAdvisors┬аhavenтАЩt been cutting risk sharply, according to Masanari Takada, a strategist at Nomura Holdings Inc.

Risk parity typically reduces exposure when volatility rises, while CTAs follow strong trends both up or down.

тАЬWhat we are seeing now does not look like a classic beta-driven correction, in which deleveraging is the leading cause of market-wide selling,тАЭ Takada wrote in a note, using the Greek symbol that denotes top-down equity risk. тАЬThe risk-off this time comes by way of the diversifiable, specific risks associated with holding particular stocks.тАЭ

Much of this is down to the idiosyncratic nature of the Reddit investment phenomenon, which is the key difference between this deleveraging episode and others spurred by economic anxieties or macro shocks such as the pandemic. While the retail crowd can whip up a trading frenzy in a few stocks through its message board, the targets tend to be concentrated and relatively small.

Over the past five days, trading volumes trebled for 59 members of the Russell 3000 Index compared to their six-month average. But about a third of the gaugeтАЩs members actually record lower-than-average activity. Over the past 10 days, volatility doubled for 46 members compared to the one-year average. Roughly 2,400 posted smaller swings.

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тАЬLike many systematic players, we are quite insulated from the headline-moving names,тАЭ said Edward Gladwyn, who manages a quant portfolio at Unigestion SA. тАЬTheir liquidity profile was not very attractive.тАЭ

Yet the Robinhood crew clearly made a big dent among a specific breed of smart money investor. Infamously, Melvin Capital┬аreceived billions┬аin support from Citadel and Point72 Asset Management after its bearish bets were blown up. As Gladwyn notes, тАЬthere is no question that there is some contagion into the wider long-short space.тАЭ

Most fund managers may see good reason to avoid making an enemy out of the new horde of day traders. Wolfe Research has┬аrecommended┬аthat professional stock pickers avoid both betting on and against Reddit favorites.

For the more opportunistic stock pickers, there may be room to pick up some hedge-fund darlings that have only dropped because of technical selling pressure, according to Goldman Sachs strategists. With stock correlations falling near the lowest since September 2019, this might even be a better time for the pros to prove their skill, especially as a recovering economy supports stocks.

тАЬIf growth remains the key driver of stock prices, investors have reason for optimism,тАЭ a team led by David Kostin wrote.



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