Cliff Asness Remembers 2007: The August of our Discontent

Ten years after the start of the financial crisis in 2007, Cliff Asness remembers the so-called "quant quake" of August 2007. 

The quant quake: "that one week period in August 2007 when quantitative equity strategies like factor investing and statistical arbitrage suffered very large losses and then, in the next few weeks, made an almost full recovery."

Cliff discusses some of the factors that can lead to this kind of short-term underperformance of quant strategies. He also compares the situation of 2007 to today's market environment.

A few select comments by Cliff below:

So the next question is what can trigger sharp selling of a popular well-known strategy even if it's not very over-priced?

But we can identify a few of those things that can start the fire. For example, it could be something like a banking crisis, an abrupt regulatory change, or a loss of ability to maintain short positions. It could be triggered by poor performance if it's severe and abrupt enough to cause people to drastically reduce their desire to take risk in those strategies. It could particularly happen if there are large and sudden redemptions facilitated by investment terms linked to poor short term performance...

Many factor portfolios are still essentially traditional, long-only and implemented without leverage, designed to beat a benchmark by overweighting the stocks preferred by the factor or factors in question. The most famous version here is often called "smart beta"...

Leverage can, and often is, used to make such a market-neutral factor portfolio matter in the investor's overall portfolio. Thus, leverage is quite useful, but it also can be a new danger.

For instance, it seems obvious that the higher the fraction of factor investors that use leverage, and the more leverage they use, the bigger the chance of another August 2007.

On this front we take some comfort in noting that in 2017 versus 2007 it appears that far more of the factor world pursues these strategies without leverage...

You can find his full post here:

The August of our Discontent: Once More Unto the Breach? (2017)

And his 2007 "quant quake" recap here:

The August of Our Discontent (2007)