AQR's Long Road Back to Average

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Taylor Larimore
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AQR's Long Road Back to Average

Post by Taylor Larimore »

Bogleheads:

Morningstar has published an article about a one-time popular fund promoted by the fund industry. Two excerpts:
"AQR’s quantitative approach centers around exploiting academically proven factors like value, momentum, and quality."

"The strategy’s wild ride provides a case study on two important points for liquid alts investors: the role of factors in their performance and the difficulty of holding a truly uncorrelated asset."
Bogleheads can read the entire article here:

https://www.morningstar.com/articles/10 ... to-average
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km91
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Re: AQR's Long Road Back to Average

Post by km91 »

Interesting read and reconfirms some of my own misgivings about tilting towards any particular factor. I don't doubt that the academic research suggests that factor premiums exist, but the timing of when the premium exists and by how much seems less clear, and capturing the premium in real market conditions and not a back test is a lot easier said than done. If Cliff Asness and a team of PHD fund managers can't outperform 3mo T bills why should we expect factor tilting with something like a Vanguard small cap value fund to offer any benefit in our portfolios?
garlandwhizzer
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Re: AQR's Long Road Back to Average

Post by garlandwhizzer »

Excellent article, thanks for posting, Taylor. It shouldn't be a surprise that execution of factor portfolios often falls short of lofty expectations even when done by very smart and knowledgeable experts. Factor models employ totally unrealistic assumptions and optimize results in the rear view backtesting mirror. It's a lot easier to pick a winning strategy going backward in time than going forward. The problem is executing effectively in an ever changing market that may or may not be like the past backtesting period. The almost laughable failure of AQR's Market Neutral to achieve stability and lack of volatility with good risk adjusted returns is a case in point. So is multi-factor funds since its inception. The factor experts using these strategies have quite clearly demonstrated thus far that they don't a clue where returns, or risk, or volatility is going to come from in the future. It seems that the market itself is serving a generous dose of humility to those including Asness and Arnott who at one point seemed to be confident they understood what drove market action. Translating factor models into outperformance for investors especially in risk adjusted terms is put it mildly not a certainty.

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thenextguy
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Re: AQR's Long Road Back to Average

Post by thenextguy »

km91 wrote: Fri Jan 21, 2022 12:14 pm If Cliff Asness and a team of PHD fund managers can't outperform 3mo T bills why should we expect factor tilting with something like a Vanguard small cap value fund to offer any benefit in our portfolios?
Do you invest in stocks? Because there are periods where stocks can't out perform 3mo T Bills.
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Re: AQR's Long Road Back to Average

Post by talzara »

AQR Equity Market Neutral has an expense ratio of 1.56% to 1.91%, depending on the share class.

Whether or not the fund can generate alpha over the long run, it's going to make the fund managers rich. After 7 years, the shareholders have already paid AQR 10-14% of their principal and returns for the privilege of investing in the fund.
Last edited by talzara on Fri Jan 21, 2022 2:29 pm, edited 1 time in total.
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Re: AQR's Long Road Back to Average

Post by km91 »

thenextguy wrote: Fri Jan 21, 2022 1:29 pm
km91 wrote: Fri Jan 21, 2022 12:14 pm If Cliff Asness and a team of PHD fund managers can't outperform 3mo T bills why should we expect factor tilting with something like a Vanguard small cap value fund to offer any benefit in our portfolios?
Do you invest in stocks? Because there are periods where stocks can't out perform 3mo T Bills.
I can look at the historical data and be reasonably confident stocks will outperform 3mo T bills over most holding periods. If Cliff and a team of Phd quants can't capture any factor risk premium over the 7 or 8 years this particular fund has been in existence, how robust and persistent can these premiums be? I'll admit I'm a bit skeptical that the risk factors are true undiversifiable risks that the market compensates investors for holding and aren't just anomalies caused by the market's cognitive biases that can be arbitraged away. So like any true investor I'm quick to point out evidence that reconfirms my own thinking (that's my contribution to the market's collective bias) :oops:
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Re: AQR's Long Road Back to Average

Post by Dry-Drink »

talzara wrote: Fri Jan 21, 2022 2:27 pm AQR Equity Market Neutral has an expense ratio of 1.56% to 1.91%, depending on the share class.

Whether or not the fund can generate alpha over the long run, it's going to make the fund managers rich. After 7 years, the shareholders have already paid AQR 10-14% of their principal and returns for the privilege of investing in the fund.
Well the management fee is 1.1% and the AUM is $64M (*). I know you might think $700K in revenue for the managers sounds outrageously high but it's actually crazy little, I'm amazed this fund hasn't been shuttered. For reference, a cash cow like VTSAX generated $81M in revenue for management and expenses of the Admiral shares (and that one is ran at cost). You can argue the fee is not a good deal to the investor but I don't think you can argue this is making them rich, they're definitely running this fund well below cost right now.

(*) It used to have closer to billions in AUM before AQR experienced a tsunami of redemptions.
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Re: AQR's Long Road Back to Average

Post by Northern Flicker »

Those AQR funds attempt to capture various factor premia without exposure to the market factor. This is very different from investing in a factor tilted stock portfolio.
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Re: AQR's Long Road Back to Average

Post by talzara »

Dry-Drink wrote: Fri Jan 21, 2022 3:59 pm Well the management fee is 1.1% and the AUM is $64M (*). I know you might think $700K in revenue for the managers sounds outrageously high but it's actually crazy little, I'm amazed this fund hasn't been shuttered. For reference, a cash cow like VTSAX generated $81M in revenue for management and expenses of the Admiral shares (and that one is ran at cost). You can argue the fee is not a good deal to the investor but I don't think you can argue this is making them rich, they're definitely running this fund well below cost right now.

(*) It used to have closer to billions in AUM before AQR experienced a tsunami of redemptions.
The expense ratio was even higher when AQR Equity Market Neutral had billions in AUM. The 2016 prospectus listed expense ratios of 2.00% to 2.25%.

After taking $100 million or more from their shareholders over the last 7 years, they can afford to subsidize the fund now.
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Re: AQR's Long Road Back to Average

Post by km91 »

Northern Flicker wrote: Fri Jan 21, 2022 4:05 pm Those AQR funds attempt to capture various factor premia without exposure to the market factor. This is very different from investing in a factor tilted stock portfolio.
Could you explain this? Aren't the factor models described in academic research, particularly FF, constructed as beta plus long/short factor exposures? The beta neutral fund should supposedly give exposure to only the uncorrelated risk factors. Is there evidence that an investor will earn the factor premium just by tilting long only toward the factor?
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Re: AQR's Long Road Back to Average

Post by Dry-Drink »

talzara wrote: Fri Jan 21, 2022 4:27 pm The expense ratio was even higher when AQR Equity Market Neutral had billions in AUM. The 2016 prospectus listed expense ratios of 2.00% to 2.25%.

After taking $100 million or more from their shareholders over the last 7 years, they can afford to subsidize the fund now.
I don't think so? The management fee was still 1.1%:
https://www.sec.gov/Archives/edgar/data ... 5d497k.htm

The expense ratio includes the dividends and expenses associated with short-selling, which is really deceiving and not really a cost since it doesn't account for all of the added dividends from the additional investments financed by those same shorts.
talzara wrote: Fri Jan 21, 2022 4:27 pm After taking $100 million or more from their shareholders over the last 7 years, they can afford to subsidize the fund now.
I completely disagree. AQR didn't "take" anything. They are very open about how much they charge and why. The funds have high barriers to entry (high minimums and typically can only be accessed through an advisor) and funds mostly come from institutional investors (not retail) who are professionals and understand what they're getting into.

They're also not running a charity and don't have any obligation to keep open a fund that is losing them money. I'm positive that it's still open because AQR hopes it can turn around and not because of some moral obligation to subsidize it.
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Re: AQR's Long Road Back to Average

Post by AlwaysLearningMore »

Dry-Drink wrote: Fri Jan 21, 2022 6:19 pm They're also not running a charity and don't have any obligation to keep open a fund that is losing them money. I'm positive that it's still open because AQR hopes it can turn around and not because of some moral obligation to subsidize it.
"I am prepared for the worst, but hope for the best." Benjamin Disraeli

Hope AQR investors were prepared for the returns they got.

The advisor made money, AQR made money. So 2 out of 3 ain't bad. (Apologies to Mr. Aday. May he RIP.)
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Re: AQR's Long Road Back to Average

Post by nisiprius »

That's just one fund.

It was a lot of work and I don't plan to update it very often, but in 8/2020 I did a survey of the entire AQR fund family, comparing each fund to whatever benchmark AQR had chosen for it--even though I thought and think it is insane to benchmark a high-volatility market neutral fund to a practically-zero-volatility Treasury bills benchmark.

The original posting breaks out the names of the funds from their ticker symbols. QMNIX is on the chart, toward the bottom of the list, having underperformed its benchmark by -2.20%.

Image

When one fund underperforms, that's one fund.

When 38 out of 49 funds underperform their benchmarks, that begins to look like a pattern. All the sophisticated quant techniques sound great. But most of the time, instead of investing in an AQR fund, you'd have done better to invest in an index fund tracking the fund's benchmark. Which in most cases are readily available with low expense ratios.

A similar chart for actively managed Vanguard stock funds is shown in this posting.

The biggest thing I learned from the exercise is that over period of more than a few years, survivorship and data availability are major problems. You hardly get started and you run into things--like AQR helpfully benchmarking some of their funds to more than one benchmark. Pick one? Use both and count it twice?

Now, whenever market neutral funds come up, people say "oh, but it's not about performance, these funds can improve a portfolio through diversification." So let's look at that. I'm going to compare a portfolio of 60% stocks--42% Total Stock, 18% Total International--and 40% bonds, with the results of putting 15% QMNIX in the portfolio and taking it out of the bond allocation.

Source

Image

The blue line is the straight-Boglehead-three-fund portfolio. The red line is the result of adding QMNIX. The best you can say about it is that wouldn't have done much harm.
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Re: AQR's Long Road Back to Average

Post by Northern Flicker »

km91 wrote: Fri Jan 21, 2022 4:38 pm
Northern Flicker wrote: Fri Jan 21, 2022 4:05 pm Those AQR funds attempt to capture various factor premia without exposure to the market factor. This is very different from investing in a factor tilted stock portfolio.
Could you explain this? Aren't the factor models described in academic research, particularly FF, constructed as beta plus long/short factor exposures?
The factors were defined statically in the original FF paper.
km91 wrote: The beta neutral fund should supposedly give exposure to only the uncorrelated risk factors. Is there evidence that an investor will earn the factor premium just by tilting long only toward the factor?
Yes.

Unless you hold 100% the long/short portfolio, the factor exposure is diluted one way or another. If you hold a percentage in the market portfolio and a percentage in a long/short portfolio, you are just paying AQR to set you up betting against yourself by simultaneously holding the market portfolio and another asset that is shorting the market portfolio.
Last edited by Northern Flicker on Sat Jan 22, 2022 2:31 am, edited 1 time in total.
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Re: AQR's Long Road Back to Average

Post by matjen »

nisiprius wrote: Fri Jan 21, 2022 7:26 pm

Source

Image

The blue line is the straight-Boglehead-three-fund portfolio. The red line is the result of adding QMNIX. The best you can say about it is that wouldn't have done much harm.
The above is through December. Through close today I would guess the AQR portfolio is ahead since Total Bond is down -1.68% and QMNIX is up 11.48% YTD. All of this is so period dependent.
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Re: AQR's Long Road Back to Average

Post by TheDoctor91 »

nisiprius wrote: Fri Jan 21, 2022 7:26 pm That's just one fund.

It was a lot of work and I don't plan to update it very often, but in 8/2020 I did a survey of the entire AQR fund family, comparing each fund to whatever benchmark AQR had chosen for it--even though I thought and think it is insane to benchmark a high-volatility market neutral fund to a practically-zero-volatility Treasury bills benchmark.

The original posting breaks out the names of the funds from their ticker symbols. QMNIX is on the chart, toward the bottom of the list, having underperformed its benchmark by -2.20%.

Image

When one fund underperforms, that's one fund.

When 38 out of 49 funds underperform their benchmarks, that begins to look like a pattern. All the sophisticated quant techniques sound great. But most of the time, instead of investing in an AQR fund, you'd have done better to invest in an index fund tracking the fund's benchmark. Which in most cases are readily available with low expense ratios.

A similar chart for actively managed Vanguard stock funds is shown in this posting.

The biggest thing I learned from the exercise is that over period of more than a few years, survivorship and data availability are major problems. You hardly get started and you run into things--like AQR helpfully benchmarking some of their funds to more than one benchmark. Pick one? Use both and count it twice?

Now, whenever market neutral funds come up, people say "oh, but it's not about performance, these funds can improve a portfolio through diversification." So let's look at that. I'm going to compare a portfolio of 60% stocks--42% Total Stock, 18% Total International--and 40% bonds, with the results of putting 15% QMNIX in the portfolio and taking it out of the bond allocation.

Source

Image

The blue line is the straight-Boglehead-three-fund portfolio. The red line is the result of adding QMNIX. The best you can say about it is that wouldn't have done much harm.
Wow I’d love to pay 2.5% per year and enrich billionaire cliff asnes some more. Where do I sign up?
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Re: AQR's Long Road Back to Average

Post by abuss368 »

Taylor Larimore wrote: Fri Jan 21, 2022 11:17 am Bogleheads:

Morningstar has published an article about a one-time popular fund promoted by the fund industry. Two excerpts:
"AQR’s quantitative approach centers around exploiting academically proven factors like value, momentum, and quality."

"The strategy’s wild ride provides a case study on two important points for liquid alts investors: the role of factors in their performance and the difficulty of holding a truly uncorrelated asset."
Bogleheads can read the entire article here:

https://www.morningstar.com/articles/10 ... to-average
Jack Bogle's Words of Wisdom: "The beauty of owning the market is that you eliminate individual stock risk, you eliminate market sector risk, and you eliminate manager risk. -- "Never think you know more than the market. Nobody does."
Taylor -

The timing of this article is good. I am reading Jack Bogle “Common Sense on Mutual Funds - 10th Anniversary” and the chapter on the challenges and failures of active management.

Thank you.
Tony
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Re: AQR's Long Road Back to Average

Post by Dave55 »

AQR returns are painful.

Dave
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Re: AQR's Long Road Back to Average

Post by nedsaid »

I will be rooting for Cliff Asness and his Liquid Alternative funds but I won't be investing in them myself. I own just one such Liquid Alt, a Market Neutral Value fund in a managed account, and it hasn't performed. Hurt a tiny bit but hasn't helped. Not a disaster by any means, it sort of just sits there and wiggles up a little and down a little. Not sure the diversification benefit I get that exceeds the benefit of holding cash.

Larry Swedroe frequently writes about how the Hedge Fund industry got off to a terrific start and then performance fell as more and more money rushed in. My understanding is that performance continues to languish to this day. So if Hedge Funds are mostly a poor investment, why would a retail investor buy a retail mutual fund that follows similar investment techniques? Why did Larry think that Cliff Asness could do what most Hedgies couldn't?

There was quite a lengthy thread on QSPIX, AQR Style Premia Alternative Fund Class I. The fund had a nice start, floundered for a while and then showed signs of life in 2021. It was up 24.83% in 2021 and is up 12.52% Year To Date in 2022. Its five year record is -0.06%, which is about what you would get simply stuffing cash into mattresses. It gets a One Star rating from Morningstar. Maybe we are giving up on QSPIX too soon but so far the performance is not impressive.
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Re: AQR's Long Road Back to Average

Post by talzara »

Dry-Drink wrote: Fri Jan 21, 2022 6:19 pm I don't think so? The management fee was still 1.1%:
https://www.sec.gov/Archives/edgar/data ... 5d497k.htm

The expense ratio includes the dividends and expenses associated with short-selling, which is really deceiving and not really a cost since it doesn't account for all of the added dividends from the additional investments financed by those same shorts.
Whether they took $50 million or $100 million from investors doesn't matter. They still got rich off the backs of their investors.

Only the dividends are offset. The other expenses are "really a cost."
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Re: AQR's Long Road Back to Average

Post by nisiprius »

matjen wrote: Fri Jan 21, 2022 10:13 pm
nisiprius wrote: Fri Jan 21, 2022 7:26 pm

Source

The blue line is the straight-Boglehead-three-fund portfolio. The red line is the result of adding QMNIX. The best you can say about it is that wouldn't have done much harm.
The above is through December. Through close today I would guess the AQR portfolio is ahead since Total Bond is down -1.68% and QMNIX is up 11.48% YTD. All of this is so period dependent.
Yes, that's fair.

My point is that it's just introducing some random noise into the portfolio.

This isn't unique to the AQR fund, by the way. The whole category is a headscratcher for me. Here is a straight chart, and a cumulative growth ratio "Telltale chart," for Morningstar's category averages for market neutral funds versus core bond funds.

Image

Image

Most strikingly, since most? all? of these market neutral funds index to Treasury bills, the telltale chart shows that the average market neutral fund has lost ground to even that easy benchmark since about 2004.

Image
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Re: AQR's Long Road Back to Average

Post by matjen »

I think the assumption was and certainly is currently that bonds won’t do as well moving forward as they have the past 40 years or whatever. Since the GFC that has been the line and it obviously has been wrong. How much longer will it be wrong? Got me. I think bonds can go negative. I think the 60/40 (especially if heavily TILTED toward the US) has crushed just about every reasonable portfolio allocation this past decade+. I wouldn’t bet on that moving forward another decade. Hope I am wrong.
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Re: AQR's Long Road Back to Average

Post by Dry-Drink »

nisiprius wrote: Fri Jan 21, 2022 7:26 pm even though I thought and think it is insane to benchmark a high-volatility market neutral fund to a practically-zero-volatility Treasury bills benchmark.
I get what you're saying but what do you suggest should be the benchmark of a fund that is notionally 100% TBills, 100% stocks and -100% stocks? Benchmarking to TBills doesn't seem crazy to me.
nisiprius wrote: Fri Jan 21, 2022 7:26 pm Image

When one fund underperforms, that's one fund.

When 38 out of 49 funds underperform their benchmarks, that begins to look like a pattern. All the sophisticated quant techniques sound great. But most of the time, instead of investing in an AQR fund, you'd have done better to invest in an index fund tracking the fund's benchmark. Which in most cases are readily available with low expense ratios.
Thank you for the graphic, it's pretty cool! I think you're implying that because the majority of funds have underperformed their benchmarks, that the issue are the funds themselves, not just bad luck right?

How does that square away with the fact that since AQR opened in late 90s, they've offered institutional portfolios and hedge funds that have performed quite well (ex: DELTA and Global Stock Selection LP). Yeah, we don't have the exact returns (only graphs in AQR website) but when the question is "are these strategies worthwhile?", are we really supposed to ignore the 15 years of strong, real-time returns AQR provided to its investors and only focus on the recent 3-5 years that have been "meh"?
nisiprius wrote: Fri Jan 21, 2022 7:26 pm Now, whenever market neutral funds come up, people say "oh, but it's not about performance, these funds can improve a portfolio through diversification." So let's look at that. I'm going to compare a portfolio of 60% stocks--42% Total Stock, 18% Total International--and 40% bonds, with the results of putting 15% QMNIX in the portfolio and taking it out of the bond allocation.
Well QMNIX was part of the efficient frontier of, say, VBTLX and VT. And that was during a time when these quant strategies haven't done too well.
talzara wrote: Sat Jan 22, 2022 12:33 pm Whether they took $50 million or $100 million from investors doesn't matter. They still got rich off the backs of their investors.

Only the dividends are offset. The other expenses are "really a cost."
Borrowing costs are a cost but not a management cost, that's all I was trying to correct.
AlwaysLearningMore wrote: Fri Jan 21, 2022 7:00 pm Hope AQR investors were prepared for the returns they got.
Cumulative return of QMNIX has been -1.8%. I agree with you, I hope those investors were prepared for a return like that.
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Re: AQR's Long Road Back to Average

Post by nisiprius »

matjen wrote: Sat Jan 22, 2022 1:08 pm I think the assumption was and certainly is currently that bonds won’t do as well moving forward as they have the past 40 years or whatever. Since the GFC that has been the line and it obviously has been wrong. How much longer will it be wrong? Got me. I think bonds can go negative. I think the 60/40 (especially if heavily TILTED toward the US) has crushed just about every reasonable portfolio allocation this past decade+. I wouldn’t bet on that moving forward another decade. Hope I am wrong.
OK, intermediate-term bonds have done better than some people expected.

But, matjen, most or all of these funds benchmark to Treasury bills and they haven't even been able to match that. Treasury bills have virtually zero interest rate risk. When interest rates fall over time, Treasury bills don't get a boost. In fact all they do is follow interest rates downward, making them easier to beat. Over the time period shown, Treasury bills have return 0.53%, far lower than the historic average of 3.3%/year from 1926 through 2021.

From inception, the Vanguard Market Neutral Fund, VMNFX, has had fifteen times the volatility of Treasury bills, for only slightly higher return. (Note: PortfolioVisualizer's "CASHX" pseudo-ticker represents 3-month Treasury bills)

Source

Image

Market neutral funds, the whole class, did poorly. They did poorly, it's not a case of Treasury bills doing unexpectedly well.
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Re: AQR's Long Road Back to Average

Post by Northern Flicker »

nisiprius wrote: Market neutral funds, the whole class, did poorly. They did poorly, it's not a case of Treasury bills doing unexpectedly well.
I agree. A caveat, however, is that market neutral funds are intended as a portfolio diversifier. VMNIX did a better job than cash in meeting that objective, but treasuries were still superior:

https://www.portfoliovisualizer.com/bac ... tion4_3=20
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Re: AQR's Long Road Back to Average

Post by matjen »

Nisi, that's why the smart money chose AQR's QSPIX over Vanguard's VMNFX (which many were mentioning as an alternative to the, uh, alternative.) :D

I have not looked at it for a long time for obvious reasons. It really has done better since inception and, rather amazingly given the largish drawdown, has remained "above" VMNFX probably 95% of the time if you pull their charts up on Morningstar. It's not like it just screamed ahead the last two weeks. Even during drawdown it was mostly ahead.

QSPIX

+2,391.50 | +23.91%

VMNFX

+1,349.75 | +13.50% ×
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Re: AQR's Long Road Back to Average

Post by Northern Flicker »

Since inception, QSPIX has been slightly inferior to VMNIX as an equity diversifier and both have been inferior to treasuries:

https://www.portfoliovisualizer.com/bac ... tion4_3=20

Why take the model risk of market-neutral portfolios for bond-like returns?
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Re: AQR's Long Road Back to Average

Post by 000 »

Northern Flicker wrote: Sun Jan 23, 2022 10:32 pm Why take the model risk of market-neutral portfolios for bond-like returns?
What is the point of market neutral funds?

They are just a pure alpha strategy, right?

Or is this more of that factor nonsense?
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Re: AQR's Long Road Back to Average

Post by Random Walker »

000 wrote: Sun Jan 23, 2022 10:43 pm
Northern Flicker wrote: Sun Jan 23, 2022 10:32 pm Why take the model risk of market-neutral portfolios for bond-like returns?
What is the point of market neutral portfolios?

They are just a pure alpha strategy, right?

Or is this more of that factor nonsense?
It’s more of the factor nonsense. It’s also an attempt for increased diversification: diversification across unique sources of return. A nonsense that I’ve invested heavily in. In my case, I’m looking for lack of correlation to stocks and bonds and after tax return greater than bonds.

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Re: AQR's Long Road Back to Average

Post by 000 »

Random Walker wrote: Sun Jan 23, 2022 10:52 pm It’s more of the factor nonsense. It’s also an attempt for increased diversification: diversification across unique sources of return. A nonsense that I’ve invested heavily in. In my case, I’m looking for lack of correlation to stocks and bonds and after tax return greater than bonds.

Dave
Can you help me understand under what circumstances the addition of market neutral fund will improve diversification of a passive portfolio otherwise invested in stocks and bonds?
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Re: AQR's Long Road Back to Average

Post by Northern Flicker »

If it is uncorrelated with both stocks and bonds, it may improve diversification. It has not worked out so far with VMNIX:

https://www.portfoliovisualizer.com/bac ... tion3_2=20

Maybe if interest rates rise steadily, the behavior of the two portfolios will invert, but there is no historical track record available to try to validate such a projection.
gtwhitegold
Posts: 673
Joined: Fri Sep 21, 2012 1:55 pm

Re: AQR's Long Road Back to Average

Post by gtwhitegold »

Dave55 wrote: Sat Jan 22, 2022 11:46 am AQR returns are painful.

Dave
I guess that it depends on the fund and how you have rebalanced. I invested in QSPNX just before it closed and have rebalanced into it over time. So far, I'm 26.7% ahead overall and time weighted, it's probably around 8% per year, so I've been pretty lucky.
Random Walker
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Joined: Fri Feb 23, 2007 7:21 pm

Re: AQR's Long Road Back to Average

Post by Random Walker »

000 wrote: Sun Jan 23, 2022 10:58 pm
Random Walker wrote: Sun Jan 23, 2022 10:52 pm It’s more of the factor nonsense. It’s also an attempt for increased diversification: diversification across unique sources of return. A nonsense that I’ve invested heavily in. In my case, I’m looking for lack of correlation to stocks and bonds and after tax return greater than bonds.

Dave
Can you help me understand under what circumstances the addition of market neutral fund will improve diversification of a passive portfolio otherwise invested in stocks and bonds?
The market neutral fund QSPIX/QSPRX, from my memory, invests in stocks, bonds, commodities, cash across 4 styles. The styles are value, cross sectional momentum, carry, defensive. Historically, it’s components have been uncorrelated to one another and as a whole, it’s been uncorrelated with stocks and bonds. Each of the styles has an historic premium with strong rationale behind it. What a potential portfolio component can add to a portfolio depends on expected return, volatility, correlations to components already in the portfolio. The fund has expected returns that are considered “equity like”, say 5% over cash. It has an expected volatility about half that of stocks. And it is expected to be uncorrelated with both stocks and bonds. So it has potential as a meaningful portfolio component.

If one were to create a position in his portfolio with QSPIX, the question immediately arises which asset class will the allocation come from. If one creates the allocation from stocks, he is hoping to keep portfolio expected return about constant, decrease portfolio volatility, improve portfolio efficiency. If one takes from bonds, he is hoping to increase portfolio expected return, increase portfolio volatility to a lesser extent, improve portfolio efficiency. Like I said, I considered my 10% allocation taken from the bond side.

Dave
Northern Flicker
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Re: AQR's Long Road Back to Average

Post by Northern Flicker »

000 wrote: Sun Jan 23, 2022 10:43 pm
Northern Flicker wrote: Sun Jan 23, 2022 10:32 pm Why take the model risk of market-neutral portfolios for bond-like returns?
What is the point of market neutral funds?

They are just a pure alpha strategy, right?

Or is this more of that factor nonsense?
Is there a significant difference? Factors try to model what is going on in alpha under CAPM. The market neutral portfolio shorts out the market from a portfolio, giving you the alpha (under CAPM) of the portfolio by whatever techniques were used to construct the portfolio.
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