October 7, 2020 – Is the dominance of large cap growth stocks coming to an end? The “S&P 5”, consisting of Apple, Microsoft, Amazon, Facebook and Alphabet, has kept the S&P 500 afloat this year, with the remaining 495 index constituents declining on average year-to-date. It is interesting to note that in September, just as the valuation differential between large cap growth and small cap value equities reached one of its most extreme levels on record, this outperformance of the mega cap stocks came to an end (at least temporarily). During the month, the equal weighted benchmark index outperformed its cap-weighted sibling by 1.3%.
If the growth stock bubble truly has burst, the implications are wide-ranging. To shun portfolio diversification, both amongst asset classes and geographies, and focus exclusively on U.S. large cap growth equities has paid off significantly for investors over the past few years. Looking forward, in an age of underperformance of the index-dominating companies, a more diversified asset allocation may be the right formula for investors to consider.
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
Multi-factor investing in U.S. stocks worked well in September, as shown in the recent AlphaRank Factor Performance. Specifically, shorting stocks with poor price momentum and a negative trend helped produce positive returns for HDGE. In addition, the long-short quality factor, which includes buying high quality stocks while shorting equities of low quality, led to positive alpha contribution.
The ARB strategy continues to generate steady, uncorrelated returns, even in the face of declining markets. In fact, in its seventh year of running, ARB is having its best year ever, attaining double-digit returns in its first six months as a listed ETF.
We continue to see the best opportunities in SPAC arbitrage, given its exceptional risk-reward dynamic. This includes limited downside risk, which is an important factor given our commitment to volatility management and downside protection within the ARB strategy. Downside protection is paramount in the era of COVID-19 and an upcoming U.S. election, both of which are contributing to abnormally high market volatility. Due to its ability to limit downside volatility, ARB is now allocated 61% to SPAC arbitrage, with the remainder in merger arbitrage.
Canadian multi-factor long-short investing continues to pay off for investors. The long-short equity overlay portfolio within ATSX added 40 basis points of alpha during the month, allowing ATSX to drop only -1.6% while the TSX 60 fell -2.0%. The goal of ATSX is to outperform the index over the long-term by mitigating downside volatility and having lower drawdowns in declining markets.
All five main factors of the long-short overlay generated a positive contribution to ATSX’s monthly performance, as seen in September’s AlphaRank Factor Performance. The long overlay portfolio actually finished up slightly, while the short overlay portfolio dropped more than the market.
Small cap value stocks, which when leveraged, we define as the “private equity factor”, continue to struggle. ALFA owns some of the cheapest (meaning low valuation) equities in the market, which have historically outperformed. However, this investment style has struggled over recent years, and has gotten hit during the pandemic.
Nonetheless, if early October is an indication, things may be looking up for private equity investing and ALFA. In stark contrast to its performance thus far in 2020, small cap value is outperforming markedly for the first handful of trading sessions in October (although the sample size is admittedly very small). If the growth stock bubble has burst and valuations once again begin to matter, it is a strategy that may do well. Patience is an essential quality to benefit from the (hopeful) bounce back in private equity replication.
Have questions about Accelerate’s investment strategies? Book a call with me.
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.