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Vector 2020 Annual Review

30 Dez 2020

Dear Investors,

On the back of the United States and China signing phase one of the trade deal investors started 2020 in an optimistic mood and markets rallied to new highs. Yet, concerns over the coronavirus quickly shifted the sentiment and over the course of a month stock markets plummeted. It didn’t take long for unprecedented monetary and fiscal stimulus to come to the rescue of downtrodden investors however, and as the helicopter money came their worries were subdued. The announcement of three working vaccines last month was the frosting on the cake as it solidified the hope that long-term economic growth will not be hampered by covid-19.

By all accounts 2020 has been quite a ride, which – contrary to what we expected - will likely go down in history as an average rather than a horrid year for the financial markets. While the near-term economic outlook is still riddled with doubts, it is safe to say that we have been too cautious during the year, both in our asset allocation and stock selection. Sadly, this has seeped into the returns of our flagship fund, Vector Navigator, as well as our allocation fund, Vector Flexible, which both lagged their benchmark by a substantial margin during the year.

We’ve written in the past that quantitative investing is going through a very difficult period. Below you can find the (updated) drawdown of the model developed by the Nobel prize winner Eugene Fama and his colleague Kenneth French. It is plain to see that the five-factor model struggled over the past years and is now in its biggest drawdown since 1963.

We get a virtually identical view when we look at the models of other well-known research firms or asset managers. Only sector neutralization (X/S) somewhat seems to temper the drawdown of quant investing as it shifts some extra weight to the extremely well performing technology and retailer stocks, which in an unconstrained model score very poorly on the value metrics that still make up a significant part of a quant’s arsenal.

Our funds are no exception to the quant pain-train: on the whole Vector’s stock selection has been lagging for the last three years; in part because many of the building blocks of factor investing have been ineffective as of late, as illustrated by the following graph (which is based on data provided by one of the largest US banks).

Yet, our performance is also lacking in part because we were not able to pick the few winning strategies that did perform very well, like the momentum trade. On the contrary, any factor timing we did often detracted from performance: when we shifted a bit of weight to good performing factors, they only went on to reverse like we’ve seen in November. In order to avoid this ‘factor drifting’ in the future we have decided to limit our degrees of freedom with respect to the growth/value and large/small cap spectrum, moving a bit further away from factor allocation and emphasizing stock picking once more. This additional risk-control should lead to a portfolio that is better balanced and whose results will be less influenced by any factor that may be in vogue during a given quarter or year.

While going through a period of relative underperformance is hard, a quant investor should expect this from time to time: it is necessary in order for the multifactor investing to keep working in the long-run – no risk means no reward after all. Moreover, when quant underperforms it tends to come back very aggressively, rewarding those investors that had the tenacity to stick with the strategy.

We wish you all the best in 2021!

Best regards,

Werner, Thierry & Nils