Quantitative money managers are retooling their formulas and product lineups as they attempt to reverse the drought that began almost three years ago, when spiking market volatility turned the quant feast to famine overnight.
A turnaround can't come soon enough for some quant managers, who have seen continued outflows short-circuit the benefits that rebounding equity markets have provided during the past year.
During the latest quarter, quant firms of all sizes reported continued outflows — from giant
BlackRock Inc., which reported $8.8 billion in quant-related net outflows, to midsize Intech Investment Management LLC, which lost $4.3 billion, and boutique Clarivest Asset Management LLC, which was down $503 million.
Quant firms suffered $100 billion in net outflows between 2007 and 2009. During the boom years between 2002 and 2006, net inflows reached $200 billion, according to data from Casey Quirk & Associates.
On the positive side, a number of quant firms have recently reported that the return of more-stable market conditions this year is allowing their computer-driven investment models to outperform benchmarks again.
For example, executives at Intech parent, Janus
Capital Group, noted during a conference call to report first-quarter results that while none of Intech's strategies had outperformed on a 12-month basis, near-term results were improving. They said that more than 75% of the strategies had outperformed their respective benchmarks during the past six months.
But investors remain skeptical.
Yariv Itah, a partner at Casey Quirk, said that the performance of quants over the past three years has tested the firm's investment models.
First, quant managers suffered dramatic losses as the markets began falling in 2007. Too many firms seemed to be holding the same stocks, setting off a vicious cycle as redemptions mounted — putting their models under a cloud of suspicion.
Retirement plan executives are worried that these models could result in losses again, Mr. Itah said.
“There is a perceived risk, probably exaggerated, that you are only one day away from disaster,” he said.
Mr. Itah predicted that flows for quant firms will remain “broadly negative,” which could result in a number of firms going out of business in the short term to midterm.
Successful quant shops will be those that convince investors that their models are different from competitors' and more apt to withstand market turmoil, he said.
Some quant managers — including BlackRock — are introducing more-dynamic models that take into account global macro factors, said Jim Neill, a consultant with Wilshire Associates Inc.
“Some of the old models missed the inflection point in "09. As the market improved through 2009, the models didn't adapt to the shift,” Mr. Neill said.
BlackRock officials weren't immediately available for comment, but in a May 12 letter to clients and consultants, Blake Grossman, vice chairman and head of scientific investments for the firm, confirmed the changes.
In his letter, obtained by sister publication Pensions & Investments, he said that officials were making a number of enhancements to the investment process, “including a shift in the company's approach from relatively static tilts toward more dynamic portfolio positioning suited to the specific market content.”
John Cuthbertson, director of research with Ten Asset Management, a quant manager, said that his firm is fighting back by adding new factors to its model — including a corporate-governance metric that looks at good-government practices and tracks picks of activist funds — to help pick winning stocks.
Assets had dropped to $436 million as of Dec. 31, from $950 million at the end of 2007. Mr. Cuthbertson said Ten Asset recently won a $10 million commitment from an institutional investor, and he hopes to obtain other mandates. He said that he knows the firm has to show results, especially with market conditions becoming more favorable again for quantitative firms.
“The spotlight is on us,” Mr. Cuthbertson said.
Like Ten Asset Management, Freeman Investment Management LLC struggled to rebuild assets with new clients.
It didn't work. An informed source said that the firm recently sent a letter to clients saying that it was shutting down.
Neither John Freeman, chief executive and chief investment officer, nor Peter J. Johnson, director of client service and marketing, returned phone calls and e-mails seeking comment. Freeman had $397 million in assets as of March 31, down from $4.3 billion at the end of 2006, according to eVestment Alliance data.
Stacey Nutt, chief executive and chief investment officer of Clarivest, said that his firm has added new factors to its models, after a stretch of weak performance in some of its strategies saw assets under management drop to less than $1.8 billion as of March 31, from more than $4 billion shortly after its March 2006 launch.
“I believe we probably had overconfidence in the robustness of the process we built,” he said of his firm's quant model.
Although Clarivest showed net outflows of $1.8 billion during the past 15 months, Mr. Nutt said that he sees signs that investor sentiment is turning, with two new commitments totaling $500 million or more in the works. The attraction, he said, is evolving quantitative models at Clarivest that focus more on longer-term earnings power.
Clarivest software now also analyzes news articles for positive mentions of companies or their products, Mr. Nutt said.
Some boutiques hit by the general quant backlash of recent years are reporting signs that newer strategies, tailored to the post-crisis needs of institutional investors, have begun to revive their growth prospects.
Martingale Asset Management's assets had tumbled to $2.3 billion as of March 31 from $5.3 billion at the end of 2007. Now, Martingale executives are gearing up to pursue a “big opportunity in the area of low-volatility strategies,” portfolios of low-beta stocks offering greater protection when the market is falling than they sacrifice in gains when the market is rising, said William Jacques, the firm's chief investment officer.
For the current quarter, Martingale is poised to garner several hundred million dollars in low-volatility mandates, which will lift assets in those strategies from less than $10 million as of March 31 to well over 10% of the firm's assets under management, or $230 million, by June 30, he said. Mr. Jacques declined to name the clients or the total amount of the mandates.
Also, Martingale recently announced an advisory board that he calls “all-star intellectuals” — academics that Mr. Jacques said have studied the “risk anomaly” that underlies the firm's newest strategies. Board members are Andrew Ang, professor of finance and economics at Columbia Business School; Robin M. Greenwood, an associate professor of business administration at Harvard Business School; and Luis M. Viceira, a finance professor at Harvard Business School.
The managers who survive ultimately will be willing to adopt varied techniques, whatever it takes to make the best investment decisions, Mr. Nutt said. “Now, the kind of manager that will succeed, quant or traditional, is the manager that uses every tool at his disposal to help perform,” he said.
Those tools include “talking to CEOs, using a quantitative model, or using a risk model, or finding an iPad and checking it out,” Mr. Nutt said.
Randy Diamond is a reporter at sister publication Pensions & Investments.
