Diving deeper into Runaway Beta: The Changing Characteristics of Key Industries

We hope you’ve been weathering our new shared reality of extreme market volatility and social isolation, and that you and your loved ones remain healthy and safe.

Today, we’ll revisit last week’s topic of “Runaway Beta“ ahead of a joint webinar that we’ll be hosting alongside our partners at Qontigo (Axioma) this Wednesday (US) and Thursday (EMEA) entitled: Managing Your Portfolio in an Extreme Factor Environment. We encourage you to sign up and learn more about:

• Factor returns and their impact on industry and factor correlations – rapid changes and historical comparisons
• How quickly beta exposures and risk profiles are changing
• How to ensure your portfolios are best positioned going forward to leverage your insights while mitigating unwanted risks
• Revisiting best practices in risk management

We continue to believe that the polarization in Beta is one of the most salient trends of the current market environment, and will be discussing it in greater detail on the webinar.

In the following, we’ll share a few insights from our research ahead of the webinar, as well as our weekly market and factor updates. Before we dive in, we also wanted to share key takeaways from a paper that our partners at Wolfe Research published this week on hedge fund deleveraging.

• Hedge Fund deleveraging started last Friday (3/13) and then reached a full-blown crisis this week
• Deleveraging was faster and far more severe than during the 2008 global financial crisis
• Leverage, liquidity, and size have also made significant swings
• Credit is emerging as a novel risk for equities

As much of Wolfe Research’s analysis focuses on Hedge Fund Crowding; here is a look at how that factor has performed since the beginning of February:

‍Cumulative Performance: Hedge Fund Crowding (2/1/20 - 3/19/20)

If you’d like to see your own portfolio’s exposure to the Hedge Fund Concentration factor, please let me know and we’ll set you up with trial access to the Wolfe model.

A Deeper Look At Runaway Beta: Industry and Company Views

As a reminder, last week we showed how return for the Axioma Market Sensitivity (AKA Beta) factor has gone parabolic over the past month. Here’s an update to the chart:

Cumulative Return: Axioma Market Sensitivity (2/19/20 - 3/19/20)

We also discussed the polarization of Beta - in other words, market sensitivities are running away in both the positive and negative directions. We now want to highlight how this drastic shift in beta has looked at the industry level, and provide a couple of examples of individual securities that have experienced these shifts.

Identifying Securities and Industries with Runaway Beta

We began by filtering the Russell 3000 for securities that experienced large shifts in beta exposure in the past 6 weeks. We define a large positive shift as a greater than +1 change in the beta exposure of a security (e.g. +1 → 2) and a large negative shift as a less than -1 change in the beta exposure of a security (e.g. -1 → -2).

We then grouped these securities into their respective GICS3 Industries to identify the industries that saw a big shift in Beta from purely the number of securities:

This largely helps corroborate some common sense theories - Biotech names have become lower beta as the world waits for a COVID-19 treatment or vaccine to emerge from their labs, while Hotels, Restaurants, and Leisure names are becoming higher beta for obvious reasons. Now, let’s see how this looks at the individual security level for a few names.

Here’s the YTD beta exposure chart for Gilead Sciences (GILD):

Gilead’s exposure to Market Sensitivity started the year at a virtually neutral -0.04, and dropped to a recent trough of -2.24 on 3/6. It’s since come back up to -1.28, which still represents a big negative move from where we started.

Meanwhile, here’s the same YTD chart for Royal Caribbean Cruises (RCL):

Beta exposure started the year at 1.07 and has since moved up to a current high point of 3.1, meaning that shares are currently 3x more sensitive to moves in the market.

Here’s another interesting one - Live Nation (LYV), which went from a negative beta exposure of -0.61 at the beginning of the year to 1.17 today, as virtually all events and concerts across the country have been canceled for the foreseeable future.

If you would like to see the full list of names in the positive and negative beta filters, or any of these industry portfolios, let me know.

US & Global Market Summary

US Market: 3/13/20 - 3/19/20

• Another bout of extreme volatility, with all three major US benchmarks suffering their worst week since October 2008. On Friday (not captured in above chart), a small initial rally quickly dissolved into a sharp selloff, with the S&P 500 ending the day down 4.3%.
• The Fed cut rates by a full percentage point (the second cut in two weeks and the largest in Fed history), leaving the rate between 0 - 0.25%. It also restarted its bond buying program.
• On Saturday, Larry Kudlow said he anticipated the Senate’s stimulus package to be worth between $1.3-1.4 trillion, walking back his earlier comments that it would be more than $2 trillion.
• Analysts at Goldman Sachs projects U.S. growth to contract by 24% in 2Q and economists at Goldman and Morgan Stanley both joined the growing number of voices that think COVID-19 outbreak will “probably” lead to a recession.

‍Factor Update: Axioma US Equity Risk Model (AXUS4-MH)

• Profitability shot up 3.59 standard deviations and now sits at a +6.39 SD above the mean as the flight to safety continued. Since 2007, this is unprecedented — we have not seen anything like this since 2007.

• Size was the second biggest gainer on the week, moving up more than 1.4 SD and now sitting at +3.22 SD above the mean.
• Volatility saw a slight recovery on a normalized basis - moving up 0.34 SD while still remaining in Oversold territory.  While this is likely surprising based on historical precedent, we see that the Biotech industry is most correlated to this factor, and we know that Biotech has become a *safer* bet for investors in this market environment.

• Value saw a slight reversal as it moved up +0.14 standard deviations...although it still sits deep in Extremely Oversold space.
• Market Sensitivity fell another 0.33 standard deviations in the Medium-Horizon model, and sits at -3.37 SD below the mean...deep in Extremely Oversold territory.
• Growth continued to tumble and garnered an Extremely Oversold label at -2.06 SD below the mean.
• US Total Risk (using the Russell 3000 as proxy) continued to rise (albeit at a slower pace than last week), up 2.7%.

‍Factor Update: Axioma Worldwide Equity Risk Model (AXWW4-MH)

• Similar to the US, Profitability saw a meteoric increase of +2.89 SD, leaving it in Extremely Overbought territory after being in negative space last week.
• Size also surged higher on a normalized basis, now sitting at +3.45 SD above the mean.
• Value also saw a reversal worldwide, up +0.54 SD but remaining in Extremely Oversold space.
• Earnings Yield saw a slower pace of normalized gains as it continued to climb higher into Overbought territory.
• Market Sensitivity and Volatility remain deep in Extremely Oversold space, with Market Sensitivity falling another 0.69 SD in the past week.
• The pain continued in Growth, as it moved from around the mean (-0.05 SD) to -1.53 SD (Oversold).
• Global Risk (using the ACWI as proxy) rose 3.15% and ended the week at roughly the same level as US risk.

Regards,
Omer