Following a brief Independence Day hiatus, we resume Factor Spotlight this week in the wake of the article published by Bloomberg this past Wednesday titled “The Hottest Hedge-Fund Strategy Faces an Existential Crisis”. This article posits that equity long-short strategies are no longer working and supports a conclusion that forecasts rough goings for the world’s most popular hedge fund strategy by pointing to weak performance, increased investment outflows, and fund closures since 2019 that have accelerated as COVID has impacted the markets. Long-short equity managers are a vital part of the Omega Point community. This compels us to dig deeper into this “Long-short Existential Crisis” over the next several weeks using empirical data to impart insights that may benefit today’s long-short investment managers going forward.
Short Interest Factor - A Possible Culprit?
With the Nasdaq at all time highs and down days in the market short-lived, long-short managers are suffering on the short side as seemingly no bad news can hurt returns. Since hedge funds comprise a large portion of the borrowed shares in equities, this week we will take a look at short interest as represented by the short-interest factor, especially in light of a key question posed by the article “If the arrival of a deadly pandemic that’s pummeled the world’s economies can’t work in short-sellers’ favor, then what can?”
What Happened in 2008?
Although managers with short positions may be feeling the pain of the Fed’s monetary policy, the question remains how much longer negative returns can be suppressed. We rewind to the 2008 Financial Crisis, and see that during this time we also saw a large spike in the Short Interest factor, only to see it decay back to it’s longer term negative trend. The question remains - how much longer can the Fed suppress negative price discovery? History seems to suggest it’s only a matter of time...
While looking back to 2008 is helpful for our analysis, we must emphasize that we see much heavier retail flow driving the market today that we did in 2008. Over the coming weeks, we will be incorporating the impact of retail flows into our analysis along with other traditional and alternative datasets using a recently released feature of Omega Point that allows users to apply custom content sets into their analyses.
US & Global Market Summary
US Market: 6/29/20 - 7/10/20
Factor Update: Axioma US Equity Risk Model (AXUS4-MH)
Factor Update: Axioma Worldwide Equity Risk Model (AXWW4-MH)
Please let us know if you’d like to learn more about the short interest factor or would like to analyze your portfolio and custom datasets through the Omega Point factor lens.