Four Factors that helped hedge funds and family offices outperform by 10% or more in 2020
Tuesday, 29 September 2020 13:28

Four Factors that helped hedge funds and family offices outperform by 10% or more in 2020

From COVID-19 to the historic oil price collapse, 2020 was momentous. In less than six-months, investors dealt with a decade’s worth of volatility. Perhaps now, more than ever, the ability to execute is critical to achieving better risk adjusted returns. Even traditionally safe investments like ETFs have underperformed. Many passive funds have locked away liquidity for many months resulting in further investor anxiety.

Does traditional financial theory hold answers?

Passive buy and hold strategies have broadly underperformed in 2020. Rule driven asset allocation is now producing mediocre results. Even Berkshire Hathaway is no longer infallible, recording a US$50 billion net loss in Q1. As investors reassess their growth and return expectations, many are discovering that traditional financial theory holds no answers.

Check out the below four instances from 2020 which highlight why execution technology could be the missing part of the puzzle to producing better returns.

Case #1: Retail investors beat value investing with tech first approach

A signature narrative for stock markets in recent months has been the role of retail investors. Studies point to a range of factors, including stay at home restrictions. In the US, online brokerage applications with low transaction fees have over 7 million new accounts in Q1 alone. Past recessions have turned people away from the stock markets. Yet, the 2020 downturn produced the exact opposite effect - confounding experts.

Retail favorite technology stocks rebound faster than the market - As of June 15 2020

2020 09 29 01
Reference article

Case #2: Nimble hedge funds and oil market dislocation – the execution advantage

The oil market dislocation and $37 price in April 2020 caught headlines. Less was understood then about the role played by ETFs and hedge funds. Recent articles explain the exact impact of hedge fund selling and ETF buying. At the heart of this debate lies the nature of a slow and predictable execution process- US Oil ETFs have a well published strategy. Funds with faster and multi-broker market access were able to create more units to sell, understanding what the lower price of oil meant for the ETF. This has resulted in the US Oil ETF price decoupling dramatically from the price of oil, even as assets soared.

2020 09 29 02

Case # 3: The $2 trillion question – Amazon vs Apple, what’s the right PE?

Volatility reveals flaws in the traditional valuation model. The NASDAQ has left every other sector of the market behind. To some tech savvy investors, this was all but expected. Financial theory and uni-dimensional metrics like “PE" and "growth vs value" just don’t work in practical terms. And, 2020 has just accelerated their probable demise.

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Case # 4: REIT rotations – moving fast to create a post pandemic portfolio

Back in April we saw stock prices declining faster than expected as fundamentals changed. As lockdowns loomed, stocks priced in bankruptcy. REITS sold off losing 60-70% of value in a few days. But, the situation reversed in the following month and prices bounced back above pre-February levels. However, successfully rotating into data center, industrial REITS was the right strategy. Complex rotations like this can’t be conceived or executed without real-time systems.

Do differences in execution capabilities change investor return expectations?

Studies have shown that better trading could have made a difference of 300 to 400 basis points to the average portfolio this year: up to 70% stocks and 30% bonds (assuming 1.5x turnover for the year). Real-time execution capabilities clearly impacts security prices.

Phone and email trading doesn’t cut it in 2020

The process of calling someone and being placed on hold ends up costing time and money. Anecdotal evidence tells us that email and phone limit orders or stops rarely get executed in volatile markets. Today, everyone risks getting trampled in the herd, whereas being smaller should only make you more nimble. Being small allows family offices and hedge funds to look at niche trading strategies that typically don’t make sense for larger institutions. The create unit to lend in oil was but one examples. Others, such as stock index changes (Tesla entering major indices being a prime example), allow only for fast execution investors to capitalize on those. Such opportunities now make up a large part of the alpha this year.

What’s next for UNHI investors and their advisors?

With technology making it easy for retail investors and hedge funds alike, passive investors and wealth managers could be left wondering if they are the only ones falling behind the curve. UHNI clients now realise that limited electronic access leaves them vulnerable. The debate over whether investors should choose an active or passive approach to investing is narrow. The real question we should be asking is, when opportunities present themselves like they did in March and April, do you want to be sending orders over email?

SaaS-based platforms have led to the “democratization” of trading technology; something every investor should cheer on. Being smaller isn’t a disadvantage in 2020, in fact it’s quite the opposite. Direct-market-access and real-time level the playing field for everyone. The technology platforms to achieve both are neither prohibitively expensive, nor hard to implement.

QUO can simplify a wealth managers workflow to create a seamless and more effective trade management and execution of multiple portfolios, so they can focus their efforts on delivering superior returns to investors.