Q3 Earnings Opening Up Alpha Opportunities

Over the past several months, we've introduced Extreme Movers, the latest tool in our arsenal to understand what is driving markets from week to week. We also debuted an international version of the Extreme Movers portfolio to help investors compare fluctuating alpha opportunities and factor-driven dynamics between the US and the world. The Extreme Movers portfolios allow us to apply hindsight to the prior week's momentum to understand the following key questions better:

1. Was the preceding week an alpha-driven or factor-driven week?
2. What are the factor characteristics of the stocks that drove the market?

The Extreme Movers portfolios are weekly-rebalanced, market-neutral portfolios that consist of the top decile of stocks from the Russell 1000 and the MSCI ACWI ex-US, respectively, based on performance on the long side and the bottom decile on the short side. You can find additional information on the construction of the Extreme Movers portfolio in the May 22 edition of Factor Spotlight.

‍US Market Summary and Extreme Movers Metrics

US Market: 10/14/2022 - 10/20/2022

• The US market had a vigorous week led by the Dow, which was up 5.6% over the five trading days ending October 27. The S&P 500 and Nasdaq followed behind at 3.9% and 1.7%, respectively.
• The Bureau of Economic Analysis reported positive GDP growth for the first time in 2022, easing some continued recession fears, but other experts warn that the rebound may be short-lived.
• Tech giants such as Meta, Alphabet, Amazon, and Microsoft reported disappointing earnings and Q4 forecasts this week, which resulted in combined losses of more than $350 billion in market cap. Meta's stock price fell by more than 24% in Thursday's trading session.

Extreme Movers Portfolio Performance

Please note that the portfolio's return will always be positive by constructing a portfolio that is long the top movers and short the bottom movers in an index. That said, there are several areas we want to observe around weekly performance:

1. Is the weekly performance below or above the recent median weekly performance? Above the recent median means that the Extreme Movers portfolios had much higher dispersion than a typical week, most likely driven by higher factor volatility.
2. Is the weekly alpha contribution below or above the recent median alpha contribution? Above the recent median demonstrates that the significant market moves were more alpha-driven than in a typical week. Below the median, the market moves were more factor-driven than in a typical week.

• The US Extreme Movers portfolio saw a return of 17.7% this week, in line with its year-to-date median return of 17.6%.
• Alpha continued its upward trend, accounting for 75% of the portfolio's return. That marks the most considerable alpha contribution since August.
• Short positions in Internet Software & Services and Insurance drove industry performance, while beta factors were the only significant contributors from style.

• The International Extreme Movers Portfolio showed a significant uptick this week as it returned 23.4%, which is well above its year-to-date median of 17.6%.
• Beta factors were also the sole source of style return in the international portfolio this week, while other styles were notably muted.
• An underexposure to China dominated the factor performance as Chinese stocks sold off following a congressional address from President Xi.

Extreme Movers Portfolio Exposure

Looking at the Extreme Movers from an exposure lens helps us decompose the individual styles and sectors associated with the portfolio's factor-driven performance and better understand broader patterns such as risk-on / risk-off or sector rotation.

• Financials behaved unusually this week, representing the largest short allocation in the portfolio despite the Capital Markets industry showing the largest long allocation at 9%. Insurance and Banks combined for a 25% short position.
• Health Care and Consumer Discretionary led the long side of the portfolio, driven by Health Care Providers & Services and Specialty Retail, respectively.
• The Energy sector, which has been the largest long allocation on average this year, was notably neutral this week.

• US markets reversed course this week with a much heavier risk appetite. Beta and volatility factors were positive due to the overweights in Consumer Discretionary and Information Technology and the underweight in Financials.
• The portfolio’s underweight to Industrials drove a shift into growth factors while value and quality factors generally sold off.
• The growth vs. value positioning of the portfolio also translated to its underexposure to interest rates as the portfolio shifted to stocks adversely impacted by rising rates.

• The international portfolio held fairly minimal sector bets again this week, with no sector accounting for more than 10% of the overall allocation.
• Metals & Mining led the largest long allocation in Materials, while Insurance and Real Estate Management & Development led the most significant short allocations in Financials and Real Estate.

• This week, the international portfolio was similarly tilted toward growth factors and away from value, though to a lesser degree than the US portfolio.
• Risk appetite was driven heavily by the short allocations to Financials and Real Estate, which currently consist of low beta but high residual volatility stocks.
• Crowding was most prevalent in Hong Kong, where the portfolio was short stocks that were not only crowded in hedge fund long books but inversely correlated to popular shorts.

Regards,
Kevin