October 28, 2010

At Schwab Impact, AQR's Asness Speaks About Alternative Strategies

Following trends in a 'disciplined' way is part of what sets his AQR Funds apart

Clifford S. Asness was at Schwab Impact in Boston to speak about alternative strategies, specifically managed futures. The firm he founded, AQR Capital Management—Applied Quantitative Research, is known for its alternative strategies, research and institutional investment management. Several of the strategies are now available in mutual funds. Asness sat down with AdvisorOne.com/Wealth Editor in Chief Kate McBride, on Wednesday.

The AQR Funds are either “long-only strategies against a benchmark or un-constrained market neutral/absolute return strategies,” according to the AQR Funds website. AQR recently launched a new alternative strategy mutual fund, AQR Risk Parity Fund (AQRNX, Class N Shares) allocating risk across equity, fixed income, inflation and credit/currency risk; see “Asness' AQR Launches Alternative Mutual Fund.”

Right now, the U.S. Treasury 10-year yields around 2.6%, and investors actually had to pay the government around 50 basis points to buy  a new issue of  Treasury TIPS this week—attractive to many who believe inflation is looming because of their inflation-protection properties. One-hundred-year sovereign debt, recently sold by Mexico, yields around 5.70%, and Goldman Sachs sold $1.3 billion in 50-year unsecured senior corporate debt, priced to yield 6.125%, sold Wednesday to retail and institutional customers, according to The Wall Street Journal. Gold is regularly making new highs, and large cap stocks are trading at post-crash highs. So what does Asness think about risks here?

‘Not a Bear Nor a Screaming Bull’

Asness says he is “fairly bullish, more on equity than bonds—trends in bonds look a little more dodgy than [equities],” but added that he is “not a bear nor a screaming bull.”

Even with all of the talk of a “probable bond bubble,” he says, he watches long-term trends, not quarter-to-quarter trends. He looks at momentum and valuation in a quantitative way. In his Risk

Parity strategy, which has a long term view, regarding bonds generally, “momentum likes it; valuation dislikes it.” However, with bonds, “there are scenarios where they’re literally the only thing that works”

Alternative Strategies in Mutual Funds

In their foray into mutual funds, Asness explains that AQR tries to bring out “what’s not available yet…a good complement” to what is out there in the mutual fund space.

The Risk Parity strategy is more “long-term…slower changing” while the Managed Futures strategy is more fast-changing.

He is surprised, however, about fees on some strategies. The Managed Futures Fund, Asness says, is a case in point. The firm does “credible, systematic” research, and it “requires a lot of skill to implement” correctly, but they are, he says, “not necessarily geniuses.” But he also wonders why that strategy is so expensive elsewhere. AQR has a 1.50% expense cap on the most expensive class until April 2011 at least. Other funds, he says, charge north of 2%.

The Managed Futures Fund, (AQMNX for N shares) uses a “disciplined trend-following” strategy using quantitative models Asness explains. It can go long or short contracts on futures and other "related” securities for equities, commodities, fixed income and currencies. “Seventy-five percent of the time [AQR] will identify short- or medium-term trends.” The asset allocations are a bit tactical. The risk, or volatility, in the Managed Futures strategy “averages 10%,” he says, but can get higher; they “won’t let it go past” about 13. In watching these trends, Asness notes that there is “10% to 15% more risk [now] than in the beginning of the year. Trends are stronger. If they get insanely good, past two standard deviations [in a] short term move,” AQR will “start to reduce” exposure.

So is the velocity of trends increasing with all of the electronic trading and information? Not necessarily. Spotting the trends is “not about technology.”  Trends are more about investors’ “under-reaction and then over-reaction. It takes time for people to anchor and adjust—it’s not about information—it’s the way people are wired.”

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