QMA is far from the only manager to have pondered the value conundrum of late. Cheaper value stocks with attractive fundamentals have underperformed for much longer than would be expected in the current economic environment as expensive growth companies have continued to increase earnings – a situation disheartening for committed value investors and value managers alike.
In a note to clients from September, QMA states that the value performance situation parallels the tech bubble and the global financial crisis. Unlike some, who have called a persistent value trap, QMA sees that “relative attractiveness of value stocks is reaching extreme levels” and that the “resulting market dislocations arguably represent the biggest investment opportunities of the last decade – if not the last 25 years”.
QMA believes value weakness is driven not by fundamentals but rather by “increased risk aversion, or overreaction to macro/earnings uncertainties”. It sees a variety of macro scenario changes such as “global growth, recession, policy stability and regulations that foster competition”. Any of these “could contribute to a rebound in value”.
For Andrew Dyson, CEO of the New Jersey-based quant house, one of the authors of the note, this underlines several things.
One is the importance of experience – living through previous cycles helps investors understand that it might not be different this time. Indeed, Dyson sat through the tech bubble as a consultant at Mercer in the US, where he not only saw value managers sweat but also that investors who stayed invested were rewarded in the end.
“I had a great seat because I could see the different managers; who was folding, who wasn’t, and who was able to stay long term and ultimately reap the benefits. And so we lay out in the paper very scientifically how extreme this environment is, and that it is absolutely on a par with the tech bubble. It may be happening a little bit more under the surface, but the parallels are very strong.”
The second point Dyson makes is about “leaning in to cycles” - keeping faith with an investment strategy so as to avoid the pitfalls of jumping off at the wrong moment. QMA says its “adaptive processes” help reweight portfolios gradually away from growth during periods of overvaluation and towards value where opportunities are significant.
A third point is about the short-termism of the investment management industry. Recent market conditions have undoubtedly been testing for managers with a quant approach and a value focus, like QMA. But just a few years ago the industry was awash with new entrants to quant-driven or factor approaches.
“So, two-and-a-half years ago when I joined QMA, suddenly everybody wanted to be in quant,” Dyson says. Fundamental managers with “no credentials at all” were “dusting down teams that sat in the corner… and now suddenly everybody is running away again. That’s exactly the industry’s short-termism both ways.”
Despite recent underperformance, Dyson is keen to underline that each of QMA’s equity strategies has outperformed the index in 80% of rolling three-year periods since inception.
This year saw QMA acquire the London-based quant hedge fund business of Sushil Wadhwani, an academic and Bank of England Monetary Policy Committee member from 1999-2002. The deal itself was announced towards the end of 2018.
“We wanted something that was not too big and not too small,” Dyson says. So we actually came up with a dozen names, and I made it my job to try and meet all of them. And right from the start, I think Sushil and his business always felt that they would fit here and that if we can make this work the fit would be exceptional both from an investment and a cultural perspective.” The deal brings trend-following, systematic macro and risk premia capabilities into the QMA fold, diversifying its client offering.
Like other quant (and indeed fundamental) managers, QMA has been putting resource into areas like natural language programming, although Dyson himself remains a sceptic on the application of artificial intelligence to investment management.
In quant equity, Dyson sees a “relatively small number of high-quality players” with loosely similar processes: “We’re probably from the outside more similar than we are different.”
Dwarfed by its parent Prudential Financial and PGIM, QMA may be a less well known player in the quant world or the investment management world generally. But Dyson has ambitions for it to punch among the best known houses. He also sees thought leadership as a tool to showcase cutting edge thinking, which can be a key differentiator in a world where investment firms can seem superficially similar from the outside and struggle to appear distinct.
In ESG – a ‘must have’ capability for managers if they are to thrive, particularly in Europe – Dyson sees tangibility and the ability to be data driven as core elements. Transparency on portfolio holdings and exposures will empower clients by allowing them to compare ESG and non ESG portfolios side by side, Dyson says.
“A client can look at their ESG portfolio… alongside our core portfolios and they can absolutely see that they’re getting their same attributes but they have different facets.” Carbon emissions data is the largest contributor within QMA’s ESG signal, and while the ESG portfolio may have meaningfully lower emissions, the factor exposure, returns and other risk data should be broadly comparable, which Dyson says is “very tangible to a client”.
He also believes solutions and multi-asset strategies is a less well formed area of commercial activity for quant asset managers and sees this as a new frontier to research and develop.
Multi-asset, Dyson believes, will move from being about “I’m big and I’m here” to being “more about science”. He also says multi-asset has been a “very strange game” in recent years. “The more benign the environment is, the less you’re actually needing to diversify, the less it mattered how good you were in some theoretical construct.
“But actually, if we’re right that you’re going to this more difficult world, then proper scientific solutions will become more important. So I think this is a very interesting space that’s yet to really take shape. It will be about illustrating the power of science in the solutions environment. And what you get from a robust quantitative process.”