Sticky expectations and predictable equity returns

July 23, 2016

New research documents that company earnings expectations of analysts have historically been sticky, plausibly reflecting that it takes time and effort to update forecasts. Such stickiness can explain two important anomalies of stock returns: price momentum and outperformance of high-profitability stocks. Indeed, these two anomalies have been correlated and stronger for stocks where analyst expectations have been stickier.

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Trend following as tail risk hedge

July 18, 2016

Typical returns of a trend following strategy carry features of a “long vol” position and have positive convexity. Typical returns of long only strategies, such as risk parity, rather exhibit a “short vol” profile and negative convexity. This makes trend following a useful complement of long-only portfolios, by mitigating tail risks that manifest as escalating trends. Options are naturally a cleaner hedge for tail risk, but have over the past two decades been prohibitively expensive.

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The illiquidity risk premium

July 16, 2016

The illiquidity risk premium is an excess return paid to investors for tying up capital. The premium compensates the investor for forfeiting the options to contain mark-to-market losses and to adapt positions to a changing environment. A brief paper by Willis Towers Watson presents an approach to measure the illiquidity risk premium across assets. The premium appears to be time-variant and highest during and pursuant to financial crises.

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FX strategies based on real exchange rates

July 9, 2016

New empirical research provides guidance as to how to use real exchange rates for currency strategies. First, real exchange rates can serve as a basis for value-based strategies, but only if they are adjusted for key secular structural factors, such as productivity growth and product quality. Second, real exchange rates in conjunction with macroeconomic indicators can serve as indicators for the risk premia paid on currency positions.

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The 1×1 of trend-following

July 2, 2016

Trend-following is the dominant alternative investment strategy. Its historical return profile has been attractive on its own and for diversification purposes. It is suitable for rising and falling prices, albeit not for range-bound and “gapping” markets. A basic trend-following algorithm is easy to build. Trend-following commands over USD300 billion in dedicated assets and a lot more are managed by informal trend-followers. The style is itself a major force of price trends, with no direct ties to fundamental asset value.

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Why fund managers share trade ideas

June 25, 2016

Through sharing research and ideas fund managers can increase both the number and quality of their trading strategies. Empirical evidence suggests that managers share ideas particularly with peers that have both the ability and the intention to provide useful feedback. This implies that portfolio managers’ communication and good intentions are critical for their success in a network of idea generation.

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Why the covered interest parity is breaking down

June 18, 2016

Deviations in the covered interest parity have become a regular phenomenon even in developed markets. Persistent gaps between on-shore and FX-implied interest rate differentials (“cross-currency basis”) can be explained by the combination of increased cost of financial intermediation in the wake of regulatory reform and global imbalances in investment demand and funding supply. They can offer information value and arbitrage opportunities for investors.

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“Helicopter money”: A practical guide for markets

June 11, 2016

If current non-conventional monetary policies fail to contain deflation risk, some form of debt monetization or “helicopter money” will become a policy option. The barriers are high but not insurmountable in the G3. Policies could range from a simple combination of QE and fiscal expansion to outright central bank funding or debt restructuring. If and when monetization of government debt becomes apparent the consequences for financial markets would be profound: the policy response to deflation risk would no longer drive bond yields lower but higher.

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How poor liquidity creates rational price distortions

June 4, 2016

When OTC markets become illiquid and dealers fail to buffer flows, institutional investors effectively face each other directly in the market. They can observe each other’s actions and position changes. For example, if large investors make offers to sell under illiquidity, the market expects to become “over-positioned” and will avoid bids at a fair price or even put in offers. In equilibrium investors transact at prices below true value and exacerbate initial negative shocks.

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Understanding market beta in FX

May 25, 2016

The beta of an investment measures its sensitivity to “market returns”. Unlike in equity, in FX the relevant benchmark for a beta cannot be a long-only index. Instead, an FX-specific beta can be based on common types of currency strategies, such as carry and trend. Currency betas measured against such benchmarks can be valuable for portfolio construction and measuring positioning risk.

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Macrosynergy is a London based macroeconomic research and technology company whose founders have developed and employed macro quantamental investment strategies in liquid, tradable asset classes, across many markets and for a variety of different factors to generate competitive, uncorrelated investment returns for institutional investors for two decades. Our quantitative-fundamental (quantamental) computing system tracks a broad range of real-time macroeconomic trends in developed and emerging countries, transforming them into macro systematic quantamental investment strategies. In June 2020 Macrosynergy and J.P. Morgan started a collaboration to scale the quantamental system and to popularize tradable economics across financial markets.

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