A-Share Surge Prompts Quick Retraction of Neutral Strategies; Top Quants Say "Margin Management Ready"
On October 8th, the A-share market welcomed its first trading day after the holiday, with investors eager and various funds rushing into the market.
On that day, the three major A-share indices opened sharply higher, with the Shanghai Composite Index (SCI) rising by 10.13%, closing at 3,674.40 points; the Shenzhen Component Index (SCI) rose by 12.67%, closing at 11,864.11 points; and the ChiNext Index (CNX) surged by 18.44%, closing at 2,576.22 points. By the end of the trading day, the SCI had increased by 4.59%, the CNX by 17.25%, and the Shenzhen Component Index by 9.17%. The total transaction volume on both markets exceeded 3.45 trillion yuan, setting a new historical record.
However, amidst this rare surge in the market, market-neutral strategy products faced difficulties, with the net value of public and private funds' neutral strategy products experiencing rapid retracement.
A research report from Mago Securities showed that among public funds, the absolute return average for neutral hedge funds in the sample from September 23rd to 27th was -2.47%, while the average absolute return for quantitative long funds was 12.14%.
The performance of neutral strategy quantitative products under several quantitative private equity firms was also poor, with the Lu Min Investment Quantitative Hedge No. 2, Qian Xiang Stock Neutral No. 1, and Bo Pu Quantitative Hedge No. 6 all experiencing weekly declines of over 4%.
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Some private equity insiders believe that the main reason for this concentrated retracement is the sudden shift of the basis of stock index futures to a positive value in the short term, especially on September 27th, when spot transactions were not smooth, and the basis underwent a significant change in a short period.
"This is a paper loss; as long as there is no maturity delivery, and the basis is repaired, the net value will also be repaired," said a top quantitative person in Shanghai regarding the recent retracement of neutral strategy products. He added that there is still pressure on the net value retracement from the basis premium if the market continues to rise, but it is much better than on September 27th because everyone has expectations and has managed the margin properly.
Rapid retracement of neutral strategy.On September 30th, Shengquan Hengyuan, a private quantitative fund with tens of billions under management, issued an apology letter, attracting market attention.
Shengquan Hengyuan stated that from September 23rd to September 27th, the market was extremely active, affecting the company's neutral products, with an estimated drawdown of around 2%, with some differences among various products.
The company explained that the losses were due to the convergence of futures basis and the transformation of all futures contracts into positive basis, with the convergence loss of negative basis being a one-time loss that needs to be borne. The current significant loss from positive basis is temporary, mainly caused by the poor liquidity of the Shanghai Stock Exchange's insurance policies. If the market pricing mechanism is repaired, this part of the loss will be recouped, with the actual drawdown being around 1%.
Established in July 2014, Shengquan Hengyuan currently manages assets exceeding ten billion yuan. Data from the China Securities Investment Fund Association shows that, as of now, the company has filed 123 products.
Shengquan Hengyuan further stated that with the rapid rise in the market, the pressure of futures margin calls is also significant. The company has timely supplemented the margin and has not experienced any forced liquidation or other risk events. The long and short positions have always been matched.
Many market-neutral strategy products of quantitative private funds are facing rapid drawdowns.
Channel-side statistical data shows that in the last week of September, the Lu Min Investment Quantitative Hedge No. 2, Qianxiang Stock Neutral No. 1, and Bopu Quantitative Hedge No. 6 all fell by more than 4%.
In fact, similar strategies in public funds also performed poorly.
A research report released by McGraw Securities shows that the absolute return average of neutral hedge funds in the sample from September 23rd to 27th was -2.47%, and the absolute return average for the past month was -2.91%. The top three neutral hedge funds in absolute returns for the past month were Harvest Absolute Return Strategy A, Everbright Sunshine Hedge Strategy 6-Month Hold A, and Huitianfu Absolute Return Strategy A, with corresponding returns of -1.02%, -1.10%, and -1.32%.
In contrast, quantitative long products, within the same time frame, had an absolute return average of 12.14%, and an absolute return average of 10.60% for the past month. The top three quantitative long funds in absolute returns for the past month were Huashan Computer Industry Quantitative A, E Fund High-Quality Growth Quantitative Selection A, and Shenwan Lingxin ChiNext Quantitative Selection A, with returns of 22.94%, 21.60%, and 20.28%, respectively.Quantitative Private Equity Actively Responds
On October 8th, the A-share market continued its frenzied performance with a significant increase in trading volume. By the close, the Shanghai Composite Index rose by 4.59%, the ChiNext Index soared by 17.25%, and the Shenzhen Component Index climbed by 9.17%. The total transaction volume of the two markets exceeded 3.45 trillion yuan, setting a new historical high. However, such a squeeze in the market remains painful for private equity firms employing neutral strategies.
Generally speaking, a market-neutral strategy in the stock market involves buying a basket of stocks to establish a long position while simultaneously using short tools such as short selling, options, or futures to hedge against market Beta risk. The goal is to seek absolute returns (Alpha) while reducing market risk (Beta).
From a risk hedging perspective, when the stock market experiences a significant decline, a market-neutral strategy can provide effective hedging. From an asset allocation standpoint, the correlation between market-neutral strategies and other strategies is low, which can reduce the drawdown of a portfolio and smooth out volatility risks.
However, if the increase in futures exceeds that of the spot market, the basis will quickly narrow or even become positive. If the excess returns on the long side of a neutral strategy product are insufficient to cover the losses on the short side, the product's net value will experience a drawdown.
Some private equity insiders have indicated that this has been the case recently, especially on September 27th. Due to poor trading conditions on the Shanghai Stock Exchange, it was impossible to place orders for spot trades, and the futures price suddenly increased much more than the spot price. The basis changed dramatically in a short period, causing a drawdown of several points.
During the week of September 27th, the IC forward contract turned into an annualized contango of 13.39%, while the IM forward contract was at an annualized contango of 9%. The margin ratio for the short side of some neutral products instantly reached warning levels or even the point of forced liquidation. As a result, many neutral managers had to either supplement the margin or close some of their short futures positions.
However, due to issues with the trading system, some private equity firms with insufficient margins were unable to promptly sell part of their long positions to raise funds to supplement the margin. Consequently, there were rumors in the market about "quantitative private equity neutral strategies and DMA margin calls.""There are a few institutions in the industry that replenish margin," said a Shanghai quantitative private equity insider. If the stock index futures continue to soar and continue to rise in the water in the follow-up, there may still be a pullback, but it also depends on whether the increase in stocks on the long side can cover the losses from hedging with stock index futures.
A top quantitative person believes that this is just a pullback in the process, a floating loss. The losses brought by the basis in this round will gradually return to zero as the stock index delivery date approaches, and the floating losses will be given up. The long-term returns of the product's neutral part come from the ability of the manager to create returns on the long side, and the short-term disturbance of the basis on the short side will revert to the mean in the long run.
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