The biggest shock in modern market history made black swan insurance the hottest trade of the year. It was only a matter of time before the naysayers showed up.
Q1 2020 hedge fund letters, conferences and more
As stock turmoil recedes and fund managers the world over contemplate hedging against the next big crash, options-based defensive strategies have been dominating the headlines for making a killing in the sell-off.
That’s stoking a fierce Wall Street debate, pitting proponents of tail-risk hedging for a volatile world against those who warn insurance premiums can eat long-term returns.
Count AQR Capital Management LLC among the doubters. The $143 billion quant pioneer is cautioning investors that those eye-popping March figures bely the expense of being constantly prepared for doom.
It argues that the protracted drawdowns do the most damage for long-term-investors rather than short and sharp shocks.
“Recent headlines focus on option-buying strategies and their extraordinary performance in March, usually leaving out their generally high long-term cost,” AQR’s portfolio solutions group wrote in recent research. “The tail insurance strategies with the largest wins in crash months are likely ones that in good times lose all or most capital allocated to them, perhaps many times over.”
Quants are vying to win back hearts and minds after defensive systematic strategies misfired in the virus-spurred meltdown while options-based alternatives stole the limelight. But AQR’s entry into this raging debate among real-money funds is timely.
With the S&P 500 up more than 25% from its March low, investors may well be asking if this is the moment to buy portfolio insurance via protective puts and, if so, whether it’s cost effective.
It’s an issue that’s weighed on California Public Employees’ Retirement System, the largest public pension fund in America, after it faced scrutiny for eliminating a tail-risk hedging program just weeks before the crash.
Read the full article here by Sam Potter, Yakob Peterseil and Ksenia Galouchko – Advisor Perspectives
