'There’s no value anywhere in the market,’ observed David Kostin, chief US equity strategist at Goldman Sachs, in October. ‘Everything trades at high levels.’
Those elevated valuations should make life easier for short sellers, although they inevitably complicate matters on the long-only side. For investors who try to do both it is a puzzle, and apparently an intractable one for the Goldman Sachs Long Short fund.
Three days after Kostin’s comments, Goldman Sachs confirmed that it would be closing the strategy. The lack of value in the market was probably less of a factor in the decision than the fund’s size and performance; launched in September 2014, it held just $25 million and has lost 7% since inception.
Shorting this bull market has been a losing proposition of course, but that is not to say that long/short mandates have been destined to fail. Over the three years to the end of September, the average fund in this sector has returned 10.1%. Its leaders have done far better, with some even beating the 34% from the S&P 500 over that period.
Fabulous Frazzini and Friedman
Topping the table over the past three years are Andrea Frazzini and Jacques Friedman of AQR. Essential to their success has been riding rather than fighting beta during the prolonged rally. The managers maintain low-cost passive exposure to global equities through futures, targeting a beta of 0.5 to the MSCI World index.
This is supplemented by tactical beta positioning, employing a variety of indicators to shift their portfolio’s beta between 0.3 and 0.7, and security selection based on value, momentum, quality and other economic factors. This enables them to take long and short positions in both sectors and individual stocks.
David Abitz’s Convergence Opportunities fund is also ahead of the S&P 500 over the past three years, albeit by a narrower margin. The fund adheres to a quantitative strategy, but with a dynamic component that adjusts for prevailing market conditions – and specifically short-term drivers of share prices. This has left the portfolio currently long stocks with strong cash flows, earnings, profits and modest valuations.
Anton Schutz has guided the RMB Mendon Financial Long/Short fund to a similar three-year return. As its name implies, the fund has a target allocation of at least 80% to the financial services sector, with a 25% cap on shorting.
While Schutz acknowledged the short-term impact of recent natural disasters on regional banks, he expressed confidence in them for the longer term. ‘Using Houston as a case study, banks are likely to increase loan loss reserves due to massive property losses in the third quarter,’ he explained.
‘Auto sales will be brisk, business interruption and property insurance should keep operating businesses running while they are rebuilding, and massive amounts of labor will likely move into Houston, removing the oversupply of apartment stock. This infrastructure spending may create a dynamic environment for the south Texas economy for years to come. We believe deposits will grow at an accelerated pace as insurance claims are paid, fueling economic growth. This is the third major hurricane hitting Houston since 2000, and each time the economy came back stronger than it was prior to the storm. We anticipate a similar outcome in Florida and are hopeful for the same following the devastation in Puerto Rico.’