Another study by professors at the University of Illinois, Chicago, and Michigan State University, first published in March 2020 and updated in June 2021, examined the returns on S&P 500 e-mini futures between 2004 and 2018 and concluded that the highest alpha was generated in the hours when European markets open. “High returns around European open are consistent with European investors processing information accumulated overnight and thus resolving uncertainty,” the report said.
Despite these findings, NightShares states that there’s no single definitive reason for why the night-effect scenario exists, and it cautions that night sessions don’t always outperform day sessions. That said, the folks at NightShares believe the risk-adjusted performance track record of night sessions versus day sessions merits bringing this concept to market in the ETF format.
“[The night effect] tends to outperform over most rolling periods. If you look at a three-year rolling period, the night tends to be better than the day. It has been pretty consistent when looking at the S&P 500 or the Russell 2000,” Gokhman said.
He noted there are certain periods when the night effect has underperformed, such as when the coronavirus hit in first quarter 2020 and a lot of bad news came in overnight from Asia, followed during the day with announcements about strong monetary and fiscal policies meant to ameliorate the pandemic-related shocks. But, he added, the night effect rebounded strongly in second quarter 2020.
The NightShares 500 ETF and NightShares 2000 ETF are transparent, actively managed products. Initially, they’re using futures to get overnight equity exposure. The futures contracts are bought at the close of a trading session and sold at the open of the next day’s trading session. In addition, the funds hold U.S. Treasurys as cash collateral to offset some of the trading costs of the futures contracts. The company says that over time it may incorporate other derivative instruments such as swaps to get similar equity exposure in lieu or in addition to futures. Both funds have an expense ratio of 0.55%.
Portfolio Fit
NightShares posits these ETFs can diversify longer-term equity allocation strategies through their differentiated risk/return characteristics via the focus on overnight trading sessions. They can also be used as short-term trading vehicles to express a particular market view.
A lot of new ETFs trumpet the uniqueness of their investment strategies, but the new NightShares products offer a truly distinctive twist. That said, the flip side of being so first-of-its-kind different is that many investors might not want to be the first kid on the block to own them.
“A lot of sophisticated investors have heard about the night effect, so they’re interested in how we’re harnessing it and structuring the trading,” Gokhman said. “And we’ve talked to people who’ve never heard of it. Whenever you launch something fundamentally unique you have to spend a lot of time educating the investment public.”