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Chinese quantitative hedge funds have acknowledged unprecedented failures with their stock trading models during one of the most turbulent two-week periods in market history.
One manager described this as the industry’s biggest black swan event. Another said their model had “switched from getting it right to getting it wrong repeatedly.”
Historical data on China’s quantitative returns is limited, but all signs point to these funds underperforming, a shock that Man Group reported in 2007 when it He compares it to the “quant shock” that hit Japan hard.
Leading quants, each with more than 10 billion yuan ($1.4 billion) under management, lagged the CSI 500 index by an average of 12 points in the two weeks ending February 8 on strategies that track stock gauges, with year-to-date excess returns -11.3%, according to industry data cited in a Huatai Securities Co. report.
Quants have endured a downturn in domestic stocks for the past three years, but were caught off guard by rapid market changes and government intervention ahead of the Lunar New Year holiday.
A week that was supposed to be a national celebration turned into “a series of sleepless nights” for quants and their investors, said Shanghai-based Hainan Semi-Martingale Private Fund Management LP, obtained by Bloomberg. In a February 8 letter, he described the event as a black swan event. .
The latest failure is that the quantitative firm’s efforts to attract clients – this time by quietly adding better-performing small-cap stocks to benchmark-tracking portfolios to boost returns – backfire when they go too far. This highlights the possibility that this may occur. While many managers expect returns to improve as market volatility normalizes, the industry also faces its most intense regulatory scrutiny on record, and weaker companies may struggle to recover.
“This was the first liquidity crisis in history caused by the rush of crowded quantitative strategies in China,” said Li Minghong, fund of hedge fund manager at Beijing Yikun Asset Management LP. Although such risks were expected, “I never expected them to come so quickly and suddenly.”
Management’s recount of this year’s turmoil has been largely consistent, according to a letter to investors. Mr. Li said the “flash” was last year’s “extreme polarization” in valuations of large-cap stocks that were falling and small-cap stocks that were soaring.
That situation quickly reversed this year as small-cap stocks began to slump and quantitative products with greater exposure to trim holdings were bought as some investors redeemed them. The sharp decline reached levels that triggered derivative losses known as a “snowball,” causing panic among holders and forcing brokerages to dump stock index futures.
As a result, hedging costs for quantitative firms’ market-neutral products, some of which have increased leverage by as much as 300%, have increased, prompting them to unwind positions. On the other hand, some so-called index-enhanced products have chosen to use index futures instead of stocks. All of these moves led to further selling in small-cap stocks, accelerating the market’s downward spiral.
Then government-led funds stepped in, propping up exchange-traded funds that track various indexes along the way, making the market even more unpredictable for computer models trained on historical data. Regulators’ efforts to rein in securities lending drove up the prices of stocks shorted by some asset managers, incurring losses. Shanghai-based Minshi Capital, which manages more than 1 billion yuan, said restrictions on the sale of so-called direct market access products, which employ leveraged market-neutral strategies, have forced managers to The company reportedly had no choice but to cut back on positions.
“A series of external interventions and changes have made it difficult for quantitative models to predict or even adapt,” Minshi wrote in a Feb. 8 post on his company’s WeChat account. “The models switched from doing it right to repeatedly getting it wrong.”
According to Zhejiang High-Flyer Asset Management, the market rally was centered around specific indexes, and quants struggled to adjust because their portfolios were more broadly diversified. In the week ending February 8, only 11% of mainland-listed stocks rose more than the CSI 500 index, which rose about 13%, compared to 9.2% of the CSI 1000 index among A-shares. Only about one in five companies outperformed the percentage increase.
Zhejiang Highflyer’s products often hold more than 2,000 shares each, suggesting they would “lose by a large margin” to the index in such extreme situations, it said in a letter to investors. Ta.
upgraded model
Managers from Qilin Investment to Lingjun Investment told investors they were upgrading their models during the week-long holiday and looking to claw back alpha as the market recovers.
Kirin representatives could not be reached. Other quantitative funds whose letters were cited in this article declined further comment to Bloomberg.
Yanfu Investments LLC, founded by former Two Sigma Investments researcher Gao Kang, cited its experience with past market downturns and expects alpha to recover “naturally” soon, so He stated that he refrained from any human intervention. Excess returns on some products have already “recovered significantly” on February 8, it said in a letter to investors.
The record alpha loss was caused by a combination of factors, and the chance of it happening again is “very small,” said Yanfu, who manages more than 10 billion yuan. The firm is optimistic about the performance of its stock quantitative products and said investors should “hold tight.”
The industry’s fate will depend in part on how regulators respond. The China Securities Regulatory Commission is preparing to introduce further rules for quants to maintain market stability, a state newspaper reported on Thursday.
“The market is cruel, but we completely understand how all of our customers feel,” Mincey wrote. “This is a market that should be respected, but it’s not easy for all the players in it.”
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