Can someone summarize/explain these 2 "common" trades ?

math_trading_coding · Post by **math_trading_coding** » Thu Aug 23, 2007 8:55 pm

Can someone summarize/explain these 2 "common" trades

(Common as in Yen carry, et al)

[b][u]Alpha Edge in micro/small cap value.

Beta Reduction in short large cap growth.[/u][/b]

Context:

[i]Now why this affects the Quant Funds more than the others? And what it means?[/i]

Quant Funds pride themselves on generating superior returns by avoiding common behavioral pitfalls. I am a believer and a practitioner. I have been running Hedge Fund money for over a decade with great success using 75% quant strategies.

Now we are in the "Great Quant Equalizer". The problems have always been rather pedestrian, and like a good WASP family, pushed under the rug. The problem is that the alpha edge is no secret. Research coming out of the top Universities tell us where the abnormal returns are, our own research confirms this and undercovers additional areas of abnormal returns. So it's "all aboard." Hence the problem.

"Free money " trade in the Yen/CMO. [b][u]Alpha Edge in micro/small cap value. Beta Reduction in short large cap growth.[/u][/b] Plus many others. It has been a recipe to print money. Until everybody is loaded up in the same direction and looking for an out. That is where we are.

It will be over in a few weeks at the most. It may be over as I write this. The quant strategies are sound and will continue to be profitable but these wash-outs are part of the game.

sharpend · Post by **sharpend** » Thu Aug 23, 2007 9:43 pm

it is pretty clear.

small cap value shares are bought to outperform the market and large cap growth shares are shorted to reduce exposure.

and yes there are many funds doing this without being known as a quant fund.

math_trading_coding · Thu Aug 23, 2007 10:36 pm

Oh, ok. He was just describing a single stategy.

(Also known as the [b]Fama and French Three Factor Model... )
[/b]

Thanks

opmtrader · Post by **opmtrader** » Fri Aug 24, 2007 6:24 pm

I have been thinking of going long the microcaps for some time now on the theory that they have been beaten up too badly in recent weeks as many quant funds using the same edge you speak of have pulled out. The ETF that comes to mind is PZI. For me it would be a long term hold. It looks as if I should have done less thinking and more acting though as the stock is up nicely from its recent low. I may wait for a pullback. Any comments on the trade or the theory behind it are welcome.

http://finance.yahoo.com/q/bc?t=1y&s=PZI&l=on&z=m&q=l&c=&c=%5EGSPC

math_trading_coding · Post by **math_trading_coding** » Fri Aug 24, 2007 7:58 pm

> It looks as if I should have done less thinking and more acting

Sometimes, the worst trades are the one's you didn't make.

SirAppleby · Post by **SirAppleby** » Sat Aug 25, 2007 5:45 pm

I am not so sure about the diversified micro funds (PZI, IWC). They tend to be tilted towards value rather than growth (see chart). Since a lot of trading strategies being used today are back-tested on the 2000-2002 bear market rather than the 1989-91 bear, it looks like value is the way to go in a downturn. I think there are more economic similarities with the '90 bear mkt, so growth may be a relative out performer going forward.

My $.002.

SA

http://finance.yahoo.com/q/bc?t=1y&s=PZI&l=on&z=m&q=l&c=iwn%2Ciwo

opmtrader · Post by **opmtrader** » Sat Aug 25, 2007 6:27 pm

Thanks for the analysis SirAppleby. I definitely see the way IWO (R2000 Growth) has diverged from IWN (R2000 Value) in recent months. IWO looks almost resilient in comparison. Now I am questioning, do you go with the set that the market seems to be voting a winner in all of this (IWO) or the set that the market has trounced, possibly to a greater extent than is reasonable (IWN)? Momentum or mean reversion? I need to do a bit more homework formulating my own opinions about the med to long term prospects of value vs growth. Thank you for pointing this out to me. FWIW I bought a miniscule amount of PZI Friday morning just to start the process.

SirAppleby · Post by **SirAppleby** » Sat Aug 25, 2007 10:57 pm

Sure, value may outperform growth if the market continues to march ahead and make new highs. If we see a cyclical bear market in the next 12-24mo, I believe that a portfolio 75% growth / 25% value would outperform the blend. Why? Too much money has been chasing value the last few years (the reverse of the late 90s), so when risk is reduced the value area is disproportionately hit.

If it is a secular bear market, all bets are off.

SA