Volatility “most definitely on the menu”: Hedge fund industry reacts to Thursday’s shock sell-off
After global stock markets suffered their steepest sell-off since June, Hedgeweek rounds up a range of perspectives from across the hedge fund spectrum, gauging the broader impact of this week’s unexpected reversal and the potential for renewed market volatility up ahead.
The sustained momentum in global equities that yielded positive returns for an assortment of hedge fund strategies in recent months came to an abrupt halt this week, with major US technology companies first in the firing line during the rapid reversal.
The tech-dominated Nasdaq 100 took its biggest tumble since the historic Covid-19-driven crash back in March, slumping almost 5 per cent on Thursday. The S&P 500 slipped 3.5 per cent – its worst day in three months – and the Dow Jones fell 2.8 per cent, with the FTSE 100 meanwhile dropping 1.4 per cent.
Stephen Crewe, a director at multi-strategy manager Fulcrum Asset Management in London, believes the sell-off appears to be predominantly US-centric, and likely to be short-lived.
Observing the correlation between US growth and value indices, Crewe said the short-term correlation between returns had turned negative, a rare development which last happened back in 2000.
“The other variable we monitor that was also flashing red was the positive correlation between the VIX and S&P 500. Usually negative, it had turned positive - we saw a similar dynamic before “volmageddon” in February 2018, but we are not expecting a repeat of that event,” he told Hedgeweek.
Thursday’s turnaround was particularly pronounced within the so-called FAANG stocks (Facebook, Amazon, Apple, Netflix and Google), which have been on a tear for much of 2020 having successfully weathered the coronavirus market turbulence in March, as businesses and consumers leaned more heavily on their devices during the Covid lockdown. Apple fell some 8 per cent on Thursday, while Facebook was down roughly 4 per cent.
“In the battle between those claiming their valuations have been stretched to breaking point versus those believing Covid has underwritten why the FAANGST are exceptional, yesterday the former had their day,” said Savvas Savouri, chief economist and partner at long-running UK hedge fund Toscafund Asset Management.
“The issue is that the latter have had a great many winning days themselves. Pause or panic? Inclined towards pause,” Savouri added.
Outlining his perspective on the sell-off, Savouri underlined the importance of the dollar and inflation in influencing the underlying earnings of US equities.
“It’s been a week now since Fed chairman Powell spelt out a need to stimulate inflation, which to my reading meant a weaker dollar with the benefit of this to large cap-overseas earners and pain to small domestic facing names,” he told Hedgeweek on Friday.
Meanwhile, Crewe – who focuses on systematic multi-asset risk premia strategies, portfolio tail risk mitigation, and alpha generation in discretionary multi-asset portfolios at Fulcrum – noted that Thursday’s slide did not accelerate into the market close. That suggests that short volatility strategies were not key players in Thursday’s market move.
“We don’t believe equity markets are over-owned – there is plenty of evidence to suggest that systematic strategies will continue to buy equity as long as we don’t see realised volatility move significantly higher again.”
Meanwhile, Saïd Tazi, portfolio manager at Geneva-based SYZ Private Banking, said he is not worried by recent developments.
“We have been saying for some time investors need to pay attention to the more speculative names that have performed spectacularly since the beginning of the year, as some of them are at very high valuations – such as companies in the SaaS (software as a service) sector,” Tazi observed.
Looking ahead, Crewe said that while equity implied volatility has subsided in recent months, the market is pricing in a sharp rise into the US election and the weeks after.
“The period also coincides with the release of more detailed studies of Covid-19 vaccines, so there are plenty of potential drivers to push realised volatility higher,” he said.
Savouri added: “With a nail biting, cliff-edge US presidential election looming and doing so during an ongoing viral crisis, volatility is most definitely on the menu.”