The articles cover Volmaggedon, American Depositary Receipts (ADRs), soft commissions, carbon emissions, the tip of the hedge fund era, and bond predictability.
But first, Andrew Lo celebrates the primary 75 years of with “The economic system in full bloom: 75 years of joint development of markets and technology.“Lo is thought for his ‘Adaptive Markets Hypothesis’ and here he thinks about the difference or evolution of economic practice to technology. He defines eight eras of economic development from 1945 to the current and matches each era to the technological development of the respective era in addition to financial and regulatory milestones. From Bretton Woods to Bitcoin, he traces how we came and explores what comes next.
“Volmageddon” is the nickname for the market crash of short volatility strategies on February 5, 2018, which led to the demise of several inverse VIX exchange-traded products within the US and still holds lessons for us today. In “Volmageddon and the failure of short volatility products,“Patrick Augustin, Ing-Haw Chen and Ludovic Van den Bergen walk readers through the steps of the negative feedback loop that gave rise to Volmageddon, demonstrating the pitfalls of rebalancing hedges and leverage when markets are concentrated and volatility spikes.
For those that need to go deeper: “Leveraged and inverse exchange-traded products: blessing or curse,” by Colby J. Pessina and Robert E. Whaley, from this 12 months’s first quarter edition is an excellent accompanying reading.
ADRs allow U.S. investors to take part in foreign stocks on U.S. markets and permit foreign firms to do a form of cross-listing that potentially lowers their cost of capital. For firms in markets like China, where IPO laws could be complicated, ADRs could be a gorgeous alternative. But they will not be without controversy. In “Chinese and global ADRs,“The authors examine the performance of ADRs of firms all over the world from the Fifties to the current and supply a superb introduction to the breadth, history and variety of ADRs. Investors have experienced significant performance advantages and diversification through this market, particularly with respect to Chinese firms. However, the researchers express concern that the Holding Foreign Companies Accountable Act and other laws may limit the long run of Chinese ADRs particularly.
Speaking of laws: More than three years have passed since MiFID II became applicable in Europe, and a few re-Bundling laws will come into force next 12 months. Soft commissions, i.e. the bundling of execution and research, have been discussed and controlled by law for years. In “To bundle or not to bundle? A review of soft commissions and research unbundling,“The researchers systematically review all of the literature so far to find out the best way forward. They report a consensus within the literature to this point on agency conflicts and the prices of bundling. Research post-MiFID laws in Europe indicates higher research quality overall but lower research coverage. But it also highlights the difficulties of cross-border trading, presents conflicting results on the impact of unbundling on smaller firms, and makes assumptions about mixed models in the long run. It provides a superb cheat sheet for all of the work that has been done on soft commissions to this point: the consensus and conflicts are nicely summarized, with recommendations for the best way forward.
After the unbundling, we wish to decarbonize! In “Decarbonize everything,” authors from Harvard and State Street analyze how using different climate risk measures results in different portfolio carbon outcomes and risk-adjusted returns. They explain the origin, strengths, and weaknesses of the differing types of carbon metrics: Scope 1, 2, and three emissions, operational emissions, entire value chain, analyst rankings, etc. The researchers try and construct a “decarbonization factor” by designing long-short portfolios that mix different metrics. Their results are insightful, especially on the sector or industry level, and particularly for investors and managers looking for to administer climate risk in portfolio construction.
The issue ends with some bad news about hedge funds and excellent news about bonds. In “Hedge fund performance: end of an era?“Nicolas PB Bollen, Juha Joenväärä and Mikko Kauppilad show that hedge fund performance actually got worse after 2008. The overall performance of all funds has declined. Moreover, the flexibility of established models to pick hedge funds has not helped investors much. The authors examine numerous different theories and conclude that the post-2008 reforms and central bank interventions were the likely turning point. Their advice for investors? Calibrate hedge fund return expectations downwards any longer.
The excellent news is that government bonds are predictable and subsequently worthwhile for an lively manager.Bond yield prediction: 70 years of international insights” Robeco employees Guido Baltussin, Martin Martens and Olaf Penninga examine bonds in major markets worldwide over a for much longer period than other studies. They show robust results for highly tradable strategies with full details on replication. They attribute the premium available for lively bond fund management to not market or macroeconomic risks or transaction costs or other investment frictions, but quite to market inefficiency.
If you liked this post, don’t forget to subscribe.
Photo credit: ©Getty Images/ Savushkin
