Concerns over quant managers may be long term – Watson Wyatt

The relative underperformance of quantitative managers in July and August has prompted some investors to question their strategies longer term. Watson Wyatt has indicated the questioning may be justified.

In a note to clients last Friday, Watson Wyatt said that given recent events and the issues they highlighted, quant managers would need to clear higher hurdles to produce a similar level of returns as they have done until recently. “While we are certainly not saying that all quant managers will underperform in the future, we are saying that conditions for them to achieve added value may be tougher in future and that it is likely to prove difficult to repeat recent outperformance levels in the medium term. “Clearly the final conclusion has to be reached on a manager-by-manager basis and we remain of the view that those quant managers who are able to meet the hurdle by having a distinct and sustainable competitive advantage, through factors such as strong internal proprietary research, cleaner and better data sources and so on, will be in a better position to achieve their target objectives.” Even though many quant funds recovered at least some of their losses in the second half of August, a major potentially ongoing problem for them is the weight of money flowing into similar strategies which are highly correlated in times of stress. “As a result the efficacy of signals which have been overly copied has reduced, or even potentially turned negative,” Watson Wyatt said. It was also possible that the market’s focus on a range of structural macro-economic issues, such as US housing, might lead to increased volatility and a breakdown of some historic linkages. This could prove a more difficult environment for momentum and value strategies, which a lot of quant managers employ, if their processes are too simplistic or are widely used.