Outflows may have also hit industry performance. Market-neutral equity hedge funds lost nearly $4 billion over the period, according to Eurekahedge. Institutions even redeemed $54 billion from long-only quantitative stock funds in the first three quarters, eVestment data show.
“Whether this has been driven by flow events or not, it is finite, it’s very unusual,” said Heslop. His $4.5 billion Merian Global Equity Absolute Return Fund has seen its assets shrink by more than half this year.
Another culprit may live in the bond market. As interest rates dominated factor returns this year, diversification benefits weakened, strategists led by Joseph Mezrich at Nomura Instinet LLC posited. Factor correlations have risen, especially in Europe where they’re now the highest in a decade, according to Bernstein.
Fund managers steadfast in their conviction that value was poised for a rebound this year have been left disappointed. Since reviving briefly in September, the factor has flatlined since. Its outlook continues to divide quant land between bears citing low yields and weak growth, and bulls touting cheap relative valuations.
For Roberto Croce, the problem is the lack of diversification. Too many equity quants have been exposed to factors that are sensitive to risk appetite like value. The fund manager at BNY Mellon Investment Management touts defensive styles like low volatility which stems from behavioral anomalies. The strategy is booming as investors pay up for havens to hedge recession risk.
“It’s important to have a portfolio that is balanced across the underlying macro drivers of risk,” Croce said.
Some quants are duly revamping strategies. At Merian, Heslop’s team this year tweaked models to penalize exposure to highly correlated factors and to make allocations more defensive against downside risks. It’s now on the hunt for smarter definitions of value.
Naturally some funds are also deploying alternative data and machine learning in a bid to re-invent now widely known factor strategies.
Newfangled methods are a contentious move for a community that’s netted billions riding established factors back-tested over decades. Invesco’s Elsaesser for one is skeptical.
“It’s like a perfect storm for factors at the moment, but they have done what you would expect them to do,” he said. “We’ve seen these drawdowns; we’ve seen them recover. We know the essence of them is the very strong factor logic.”
This article was provided by Bloomberg News.