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The hidden reason why hedge-fund returns are at risk

Smart money is blindsided by a flaw of its own making hiding in plain sight — an investing maxim quants have known for an age.
Blame bets on volatility.
Research from Robeco Asset Management’s David Blitz concludes hedge funds have hitched their wagon to stocks with large equity-price swings — a misguided strategy over the long haul.
Not only have high-volatility shares massively underperformed low-vol peers, this outsized exposure to the high-octane cohort is one of the strongest explanations for hedge-fund performance, according to Blitz.
The sweeping study crunched industry returns from 2000 to 2016, and concluded funds overall have negative exposure to a long-short version of low volatility.
“The fact that hedge funds are positioned like investors in high-volatility stocks, this does not contribute positively to their returns,” the Rotterdam-based head of quantitative equity research said in an interview. “They would likely have been better off if they had chosen not to bet against the low-volatility anomaly.”
A tilt away from the low-volatility factor ranks among the top three drivers of fast-money performance, alongside the broader index itself and emerging-market exposures, according to Blitz.
Efforts to deconstruct active-manager returns are in part the founding principle behind factor investing, one of the most popular quantitative strategies — with Blitz a key proponent of the low-vol variety.
Academics have long discovered that most equity alpha is extracted from sources other than bets on the prospects of an individual company. Rather, successful managers pick stocks that share common factors, like momentum or earnings growth, that reliably beat the market over time.
From there, the low-volatility factor was born. Today, it’s a booming industry. Along with its inclusion in factor funds offered by Robeco and other quant giants like AQR Capital Management, smart beta exchange-traded funds focused on the investing style have $53 billion in assets.
Sure, there are periods where low-vol underperforms. This year, a calmer version of the S&P 500 has lagged the broader benchmark by about 3 percentage points. Yet quants point to its long-term success. Since 2000, the factor has bested the S&P 500 by a whopping 118 percentage points.
Hedge funds, it would seem, have missed the memo. Maybe it’s for good reason.
Managers succeed by locating overlooked companies, that while unpredictable and volatile, may eventually turn out large gains, said Benjamin Dunn, president of the portfolio-consulting practice at Alpha Theory.
“You need earnings variable to really drive alpha and have an edge over other investors,” Dunn said. “You’re not going to pay someone 2 and 20 to be long General Mills.”
Low-Vol Risk
Explicitly tracking the low-vol factor also comes with its own challenges, especially overcrowding. In 2016, a volatility blow-up was blamed on investors who piled into the strategy and then rushed for the exits. More recently, JPMorgan Chase & Co.’s 2018 outlook flagged richly priced low-volatility stocks as a source of equity-market risk.
“We’ve had a lot of questions from clients asking if this low-volatility factor was being arbitraged away, because you’d expect it to disappear if more people are exploiting it,” Blitz said. “But on the other side of the trade seems to be $3 trillion in hedge-fund assets.”
Since Robeco’s study looked at aggregate returns and not individual holdings, it is possible that some funds do track low volatility. But not enough to sway the total bias.
As for why hedge funds gravitate toward stocks with large swings, Blitz blames performance fees that incentivize managers to take riskier bets.
It’s a tad ironic. More so than most other active managers, hedge funds are in a prime position to take advantage of the low-vol anomaly. For example, they have fewer leverage constraints, so can buy the boring stocks, deploy debt, and post higher returns.
“If someone is trying to exploit it, it should be hedge funds,” Blitz said. “At least some positive exposure to low volatility, and not the other way around.” — Bloomberg

China rejects US request to cut Iran oil imports

The US has been unable to persuade China to cut Iranian oil imports, according to two officials familiar with the negotiations, dealing a blow to President Donald Trump’s efforts to isolate the Islamic Republic after his withdrawal from the 2015 nuclear accord.
Beijing has, however, agreed not to ramp up purchases of Iranian crude, according to the officials, who asked not to be identified because discussions with China and other countries continue. That would ease concerns that China would work to undermine US efforts to isolate the Islamic Republic by purchasing excess oil.
Teams of US officials have been visiting capitals around the world to try to choke off sales of Iranian oil by early November, when US sanctions are due to snap back into effect. While the Trump administration has said it wants to cut Iranian oil exports to zero by Nov. 4, most analysts viewed that target as unlikely.
Francis Fannon, the assistant secretary of state for the Bureau of Energy Resources, was recently in China to discuss sanctions, according to a State Department spokesperson.
China’s ministries of Foreign Affairs and Commerce didn’t immediately reply Friday to faxed requests for comment.
The Trump administration argued that the nuclear deal, which lifted some economic sanctions in exchange for restrictions on Tehran’s nuclear program, was fatally flawed because it didn’t address the country’s destabilizing behavior or limit its development of ballistic missiles, among other things. The other partners in the agreement, including the UK, France, Germany and Russia, criticized the US move to quit the deal.
Unfazed, the administration has warned that even allies would face sanctions if they didn’t show “significant” progress in reducing Iranian oil purchases by Nov. 4, ruling out broad exemptions or waivers.
Reducing Purchases
The oil market has been speculating about how much of Iran’s exports could be eroded by the U.S. sanctions, with analysts from BMI Research to Mizuho Securities predicting that China might boost its imports of cheap supplies from the state and offset cuts by other nations. Countries including South Korea and Japan are reducing purchases from OPEC’s third-largest producer before the deadline to avoid the risk of buyers losing access to the U.S. financial system.
China — the world’s top crude buyer and Iran’s No. 1 customer — has said previously that it opposed unilateral sanctions and lifted monthly oil imports from the country by 26 percent in July. It accounted for 35 percent the Iranian exports last month, according to ship-tracking data compiled by Bloomberg.
The Organization of Petroleum Exporting Countries, led by Saudi Arabia, has pledged to fill any supply gaps in the market after Trump’s complaints. That’s helped limit a rally in global benchmark Brent crude, which is trading near $73 a barrel after falling 6.5 percent last month. The London marker is still up about 40 percent from a year earlier. — Bloomberg

PSALM clarifies issue on maturing debts

Power Sector Assets and Liabilities Management Corp. (PSALM) said it was not blaming the Energy Regulatory Commission (ERC) for the interest cost it incurred in securing funding to pay maturing debts.
“The computation of PSALM simply presents the cost of contracting loans to supplement the needed funds to pay maturing debts while awaiting approvals of its UC-SCC and SD applications filed with the ERC,” PSALM President and Chief Executive Officer Irene Joy Besido-Garcia, said in a statement on Thursday night.
PSALM also clarified that it is not accurate to state that it has “ballooning debts.”
It said the total liabilities that PSALM assumed from the National Power Corp. (Napocor) reached P1.24 trillion in 2003. It said as of June 30, 2018, the remaining principal debt of PSALM is down to P246.73 billion, while the remaining obligations under its independent power producer (IPP) contracts amount to P202.70 billion. — Victor V. Saulon

Alternergy seeks ERC approval to connect wind farm to Meralco line

Alternergy Sembrano Wind Corp. (ASWC) is seeking regulatory approval to build a point-to-point transmission facility that will connect its 81-megawatt (MW) wind power plant to the power line of the Manila Electric Co. (Meralco).
ASWC, an expansion of the 54-MW wind farm under Alternergy Wind One Corp., will build the transmission line within the vicinity of Mt. Sembrano and span across the town of Pililla in Rizal, and the towns of Mabitac and Pakil in Laguna. Alternergy is led by former Energy Secretary Vicente S. Perez Jr.
In its application with the Energy Regulatory Commission (ERC), ASWC placed the cost of the transmission line at around P715.2 million. It will connect the Sembrano wind farm to Meralco’s 115-kilovolt (kV) Malaya-Teresa line. — Victor V. Saulon

Manulife remains bullish despite market headwinds

The asset management and trust arm of Manufacturers Life Insurance Co. (Phils.), Inc. (Manulife) is bullish on the local capital markets on the back of sustained economic growth amid transitory and external headwinds.
In a press briefing, Manulife Asset Management and Trust Corp. (MAMTC) President and Chief Executive Officer Aira Gaspar said the firm continues to be bullish on the domestic equity and bond markets due to sustained economic growth.
“Actually, despite the headwinds over the last five years, the Philippine economy has consistently delivered at least 6% GDP (gross domestic product) growth, and this year the economy expects GDP growth of 6.8%,” Ms. Gaspar told reporters Friday.
She added that the elevated inflation, although transitory, remains a “key headwind.”
“The elevated inflation is a key headwind… We see this as transitory, and we think that the Philippine economy will remain buoyant and is actually in a better position now to weather these headwinds.” — Karl Angelo N. Vidal

De Lima files bill seeking to provide benefits for child development workers

Senator Leila M. De Lima has filed a bill creating a magna carta law for almost 50,000 child development workers (CDWs).
Senate Bill No. 1894, filed on July 30, provides child development workers security of tenure and social protection measures in times of sickness, disability or retirement.
“With millions of our youth dependent on them, it is high time for government to recognize their important role in society and grant them as much support as possible to ensure that they are cared for the way they care for our young,” said Ms. De Lima, who chairs the senate committee on social justice, welfare, and rural development. — Camille A. Aguinaldo

Public interviews for next Supreme Court chief justice set on Aug. 16

The Supreme Court announced that public interviews for the applicants of the Chief Justice post will be on August 16.
The Supreme Court (SC) Public Information Office (PIO) announced on Twitter on Friday, Aug. 3, that the Judicial Bar and Council (JBC) will have public interviews with the Chief Justice aspirants on August 16, at 9 a.m.
SC Associate Justices Lucas P. Bersamin, Teresita L. De Castro, Diosdado M. Peralta and Andres B. Reyes Jr. are among the five applicants nominated for the post. Davao Regional Trial Court Judge Virginia Tehano-Ang is the only nominee outside the SC.
In a media briefing last Tuesday, SC Spokesperson Theodore O. Te said that Mr. Bersamin got the most votes for the chief justice position from the members of the Supreme Court. Mr. Bersamin got 10 votes while his fellow justices Ms. De Castro and Mr. Peralta got nine votes. Mr. Peralta got the least votes among the SC members with only two votes. — Gillian M. Cortez

Slovakia firm to set up hospital within Cagayan ecozone

The Cagayan Economic Zone Authority said a Slovakia-based firm will set up a first-class hospital in the zone soon.
In a Friday statement, the investment promotion agency said it recently signed a memorandum of understanding with a firm named Commerce Slovakia Corp. which will develop the hospital.
CEZA said it was assured that the completion of the health facility “will be done in record time as opposed to the average of five to ten years to set up and build a traditional hospital.”
Quoting the firm, CEZA said the hospital would be operated “on the highest standards compliant with European and other world-class standards.” — Janina C. Lim

DoJ says it has no power to impose travel ban against Napoles

The Department of Justice (DoJ) cannot impose a travel ban against alleged pork barrel queen Janet Lim Napoles and five relatives indicted by the United States (US), Secretary Menardo I. Guevarra said.
“Pursuant to the recent decision of the Supreme Court, the DoJ has no statutory power to restrain the travel of persons of interest, especially if they are not facing any investigation here,” Mr. Guevarra said in a text message to reporters on Friday, Aug. 3.
The Justice secretary, however, said this does not restrict the US from holding operations to track down the defendants.
“But, considering that an indictment has already been made in US courts, the US government has ways of tracking down the defendants anywhere, including tapping the assistance of the interpol,” Mr. Guevarra said. — Charmaine A. Tadalan

China dethroned by Japan as world’s second-biggest stock market

China just lost its ranking as the world’s number two stock market.
After a Thursday slump, Chinese equities were worth $6.09 trillion, according to data compiled by Bloomberg. That compares with $6.17 trillion in Japan. The U.S. has the world’s largest stock market at just over $31 trillion.
China’s stock market overtook Japan’s in late 2014, then soared to an all-time high of more than $10 trillion in June 2015. Chinese equities and the nation’s currency have taken a beating this year amid a trade spat with the U.S., a government-led campaign to cut debt and a slowing economy.
“Losing the ranking to Japan is the damage caused by the trade war,” said Banny Lam, head of research at CEB International Investment Corp. in Hong Kong. “The Japan equity gauge is relatively more stable around the current level but China’s market cap has slumped from its peak this year.”
The Shanghai Composite Index has lost more than 16 percent in 2018 to be among the world’s worst performers. Industrial and tech stocks have been among China’s worst performers, with those subgauges on the CSI 300 Index of large caps sliding more than 20 percent this year.
China’s Politburo, a body comprising the Communist Party’s 25 most senior leaders, signaled on Tuesday that policy makers will focus more on supporting economic growth amid risks from the deleveraging campaign and the trade standoff. Still, the Shanghai Composite Index is headed for its worst week in more than a month.
“The market will likely continue to hover at low levels for the next couple of months,” said Linus Yip, Hong Kong-based strategist with First Shanghai Securities Ltd. “But there’s still a chance that China’s stock market will recover with total capitalization ascending to the world’s No. 2 place again. After all, the economic fundamentals are still stable and growth momentum will resume after a short-term downturn.”
Global Role
Losing the number two spot is a reminder that China’s role in global financial markets — while large — still doesn’t match its economic might. Policy makers have pledged to open areas such as investment limits on industries from banking to agriculture, but foreign ownership of equities and bonds remains low. The yuan’s share of global payments fell to 1.81 percent in June from 1.88 percent a month earlier, according to data from the Society for Worldwide Interbank Financial Telecommunication.
While Japan’s benchmark Topix index has declined about 4 percent this year, it remains one of the better-performing markets in Asia amid support from the Bank of Japan’s ETF purchases and as most companies continue to report robust earnings growth. Almost 60 percent of firms on the gauge that have reported in the current earnings season have beat analyst expectations.
The yuan has weakened more than 8 percent against the dollar in the past six months, and there are few signs the nation’s central bank has been intervening in the currency market. China’s currency is in line for an eighth weekly retreat, the longest run since the start of the country’s modern foreign-exchange rate regime in 1994. The onshore yuan was down 0.47 percent at 6.8705 versus the greenback as of 1:15 p.m. in Shanghai.
The yuan’s tumble has prompted forecasters to lower their estimates for the exchange rate. Deutsche Bank AG was among the latest to do so, cutting its year-end prediction to 6.95 per dollar from 6.8 on Wednesday, saying trade tensions will likely put persistent pressure on China’s current account in the next few years.
The market value calculations include primary listings only, to avoid double-counting. Hong Kong’s equities are valued at $5.1 trillion. — Bloomberg

GoPro beats estimates on renewed demand for action cameras

GoPro Inc. posted results that exceeded analysts’ estimates, buoyed by strong demand for the company’s signature action camera and suggesting it’s finding a way back to growth and profits.
Revenue was $283 million in the second quarter, the company said Thursday in a statement. That was up 40 percent from the previous period and beat the average analyst estimate of $270 million. The company reported a loss of $37 million, or a loss of 27 cents a share. Analysts anticipated a loss of 32 cents.
“GoPro is executing,” said Nicholas Woodman, founder and chief executive officer, in a statement. He anticipates GoPro will be profitable in the second half of 2018 and through 2019. The shares jumped about 5 percent in extended trading.
The report marks the second consecutive quarter of good news for the company — but the gadget maker may need to extend its winning streak to win over investors who have suffered through three years of stock declines. After a market debut in 2014 to great fanfare with a hot product and sleek videos of daring exploits executed in stunning scenery, GoPro quickly faced increasing competition for its small, cube-shaped action camera.
It launched, after a delay, a drone called Karma in 2016 and little more than a year later pulled the plug on the project. GoPro slashed the price on its older Hero5 Black camera and a new model over the holiday season last year. The shares have fallen 94 percent from their high of $93.85 in October 2014 to $5.99 at Thursday’s close.
The company “will have to produce several quarters of solid earnings to win over investors,” analysts from Wedbush Securities wrote in a note before earnings were released. They rated GoPro “neutral,” adding it may not be innovating fast enough to offset impending market saturation from its core products.
GoPro projects revenue of $260 million to $280 million in the third quarter, and $380 million to $400 million in the fourth quarter, Chief Financial Officer Brian McGee said during a conference call. The forecast is in line with the average of analysts’ estimates, according to data compiled by Bloomberg. The company is “closely monitoring” a shortage of components such as resistors that affects GoPro’s supply chain, which has been factored into the forecast, Woodman said.
Woodman said the company is seeing signs of “strong demand” for its products. Inventory is at the lowest level since the second quarter of 2014, the company said. GoPro introduced a lower-cost option of its HERO camera in March for $199.
GoPro has sold more than 30 million HERO cameras since the debut of the first HD model in November 2009, and more than four million HERO5 Black cameras since its launch in the fourth quarter of 2016. In April, the company began an incentive program for users to trade in older GoPro or digital cameras for discounts on its latest devices.
GoPro is also benefiting from new services designed to make using its hardware more accessible. Its Plus subscription allows for automatic cloud backup, discounts on accessories, support and an app for sharing photos and videos. The company said it had 160,000 active paying subscribers at the end of the second quarter, up 9 percent from the previous quarter.
At the same time, GoPro has been keeping costs in check, after reducing its workforce by 20 percent in the beginning of the year, helping boost adjusted gross margins to 31 percent in the second quarter, from 24.3 percent during the first quarter. — Bloomberg

GT Capital Holdings, Inc.: Transforming Filipino aspirations into reality

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