September 9, 2020 – The market has gone from famine to feast in seemingly record time, as it recovered from a lightning-quick bear market to new all-time highs in only a matter of months.
Apparently, the market has either completely forgotten about COVID-19 or has determined that an effective vaccine is all but inevitable.
Irrespective of the outcome of the pandemic, Accelerate’s funds exist to harvest various risk premia offered up by the market. Some of these risk premia include the merger risk premium or the value premium. Not all risk premia work in every environment. Notably, the current market is rewarding merger risk premium investors with record returns. In contrast, the market is also punishing investors who seek to profit off of the value or quality anomalies. Nonetheless, when looking to allocate to alternative funds, it is essential to realize that it is impossible to forecast when a market anomaly will outperform. However, it tends to be worthwhile investing in these risk premia over the long-term given their well-documented track records of historical outperformance.
Accelerate manages four alternative ETFs, each with a specific mandate:
- Accelerate Absolute Return Hedge Fund (TSX: HDGE): Long-short equity
- Accelerate Arbitrage Fund (TSX: ARB): Event-driven
- Accelerate Enhanced Canadian Benchmark Alternative Fund (TSX: ATSX): Alpha + beta
- Accelerate Private Equity Alpha Fund (TSX: ALFA): Private equity replication
As shown in the AlphaRank Factor Performance for August, the short price momentum and short trend factors were the main culprits leading to negative portfolio returns for the month. While frustrating, we expect the short portfolio to not only help mitigate risk over the long-term, but also be incremental to performance on a go-forward basis. Presently, as the Nasdaq Composite falls into correction territory, early signs indicate that the growth stock bubble may be bursting. This bubble bursting could create an ideal environment for HDGE’s long-short strategy, in which low-quality, overvalued securities decline in price while undervalued, high-quality stocks increase in value.
On March 26, 2020, a couple of weeks prior to launching ARB, I wrote “The Paradox Of Choice: What To Do When It Rains Gold“. In this post, I noted the unprecedented opportunities in both merger arbitrage and SPAC arbitrage. I wrote, “If you review the evidence, it isn’t difficult to see that the current market environment for certain asset classes is at least as good as, if not better, than the last fat pitch lobbed to investors during the great recession between late 2008 and early 2009.”
That bet is paying off, given ARB’s strong returns out of the gate. However, the opportunity set has shifted. The pandemic has caused fewer mergers to get announced, reducing the opportunity set in that segment. Conversely, the recent bull market has brought with it record SPAC issuance, leading to unparalleled SPAC arbitrage opportunities that continue to be widely available today.
Accordingly, the ARB portfolio has shifted its holdings such that the majority of the portfolio is now dedicated to SPACs.
Similar to HDGE, ATSX’s short overlay gave back some of its year-to-date alpha in August, as the strategy underperformed given the rally in shorted securities. Nonetheless, while U.S. risk premia have had an all-out poor year, Canadian risk premia have outperformed markedly (despite August’s poor showing).
During the month, the short portfolios of the price momentum and trend factors led the negative Fund performance. Meanwhile, the value and quality factors in Canadian equities still seem to matter, as high-quality undervalued securities outperformed low-quality overvalued stocks during August.
With the relentless outperformance of glamour stocks, analogous to the tech bubble of the late 1990’s, investors have been asking the question, will private equity ever work again? Certainly, this year the private equity factor, as defined as leveraged small cap value stocks, has continued its decade-long streak of underperformance, which was only made worse by the pandemic.
Nonetheless, there’s a reason that private equity has produced market-beating returns over the long-term, given its leveraged exposure to the small cap and value anomalies. Only time will tell if the next few years will be analogous to the post-tech bubble burst, in which the private equity factor went on an epic, multi-year streak of double-digit annualized performance.
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Disclaimer: This distribution does not constitute investment, legal or tax advice. Data provided in this distribution should not be viewed as a recommendation or solicitation of an offer to buy or sell any securities or investment strategies. The information in this distribution is based on current market conditions and may fluctuate and change in the future. No representation or warranty, expressed or implied, is made on behalf of Accelerate Financial Technologies Inc. (“Accelerate”) as to the accuracy or completeness of the information contained herein. Accelerate does not accept any liability for any direct, indirect or consequential loss or damage suffered by any person as a result of relying on all or any part of this research and any liability is expressly disclaimed. Past performance is not indicative of future results. Visit www.AccelerateShares.com for more information.