Monday, December 03, 2007
Macro Man would like to wish all readers a happy and prosperous New Year. What's that, you say? It's only the beginning of December? The Christmas tree isn't even up, and it was only this weekend that the holiday music made an appearance on the radio?
Never fear. Macro Man has not lost his mind. He is all too aware that it is not a new calendar year, given that he has not done the least bit of Christmas shopping yet. But for some major players in financial markets, 2008 starts today. A number of major investment banks and some hedge funds end their fiscal year in November, so the beginning of December represents a new slate. Subprime is last year's story, and with year-to-date P/L's reverting to zero, it's now time to layer fresh risk for 2008.
So goes the theory, at least. It is indisputable that for firms like Goldman, Lehman, and Morgan Stanley, 2008 starts today. Whether that will represent an incentive to swing it around remains to be seen, of course. Friday's payroll data and next week's FOMC announcement represent significant event risks, and it would be a brave speculator indeed who bets the ranch today and risks starting the new year in the hole.
Macro Man's inquiries on the matter suggest that while there may be some increased risk-taking, the magnitude will be smaller than normal given the current environment and the event risks noted above.
Even if we did know that more risk was going to be deployed, it's tough to say what the implication may be. Last month was challenging for many market particpants, and it's hard to know exactly what the "risk trade" is at the moment. For most of the year, for example, there was a strong positive correlation between macro returns (at least as proxied by the HFR index) and the S&P 500. That correlation seems to have broken down recently, however, which may explain the "VIX divergence" that Macro Man observed a couple of weeks ago.
November, meanwhile, was clearly a month when alpha triumphed over beta. The financial press was replete with horror stories of quant fund underperformance, and Macro Man's own quant strategies had an absolute shocker. Any environment where 1 month dollar LIBOR can jump 0.40% in day (as it did on Thursday) is unlikely to be a successful one for strategies predicated on normal market conditions, and so it proved for Macro Man and the market at large.
The beta plus portfolio shed 5.9% last month, more than half of its year-to-date gains through the end of October. The equity portfolio clawed back gains late in the month to lose "just" 2.56%, while the FX carry positions chopped in and out before giving up the ghost for good
While Macro Man's alpha strategies performed very strongly indeed, for much of the month they only managed to staunch the bleeding from the beta portfolio. It was only gaining long equity deltas via the expiry of option hedges, and the month-end rally in the SPX, that propelled the overall portfolio smartly into the black.