Ask a half-dozen analysts how much of a given selloff was attributable to CTA de-risking and you’ll get six different answers. Or at least slightly different answers.
Depending on the setup headed into a drawdown, and, frankly, depending on how much effort went into developing the model, analysts will attribute more or less selling to momentum-based strats.
I learned years ago not to take sides when it comes to whose estimates are “better”. It’s much safer to simply make the neutral observation that CTA selling was probably in play at a given juncture, mention the extent to which systematic de-risking is a key part of the pernicious, self-feeding loop formed by the nexus of flows, volatility and thin markets, then leave it to other folks to hash out the specifics.
Earlier today, Nomura’s Charlie McElligott – whose name has become almost synonymous with identifying CTA “trigger” points – suggested that on his model, one short-term window had flipped short for SPX, even as the 3m, 6m and 12m time horizons still sport “buy” signals.
“The short-term 2w window has in fact flipped ‘Short’ on account of the recent impulse move lower [and] the jump higher in trailing realized vol.”, he said.
Obviously, this is all in the context of last week’s selling pressure, which culminated in a Friday rout – or, what counts as a “rout” in a market where stocks went 74 straight sessions without falling 1% or more. (It took a literal pandemic to shake things up.)
With that in mind, JPMorgan’s Nikolaos Panigirtzoglou spent a bit of time in his latest note discussing the likely behavior of momentum traders over the past week, which featured not just selling pressure in equity land, but a strong rally in bonds and a rocky finish to the worst January since 1991 for crude.
“How much de-risking by momentum traders has taken place so far?”, Panigirtzoglou asks, before noting that because stocks sold off less in the US than abroad, “the long-term momentum signals still remain elevated, while momentum decay of the shorter-term signal has seen the z-score decline to around 0.4”. That was as of Friday.
“This suggests that there has been some modest de-risking by CTAs in US equities, but that they remain vulnerable”, he goes on to remark, adding that on the bank’s estimates, it “would only take a further decline of just under 2% from current levels to start pushing shorter-term signals into negative territory”.
Not surprisingly, the bank’s short-term momentum signals in rates (see the right pane above) saw what Panigirtzoglou describes as “a sharp swing to bullish territory”, with “both short-term and long-term momentum approaching extreme levels with z-scores at around 1.3, suggesting CTAs are firmly long duration and that funds that employ mean reversion signals may be approaching thresholds where those signals are triggered”.
That latter bit suggests at least some strats could turn tactically bearish in rates given the sheer scope of the rally, just as extreme bearish levels on JPMorgan’s short-term signal for WTI raise the risk of mean reversion signals “triggering profit taking on shorts” in oil, Panigirtzoglou notes.
How useful is this information, really?
Well, that’s one of the maddening things about systematic flows, and especially the CTA community. I’ve seen some commentators in the past criticize retrospective analysis (and, of course, the buy-side habitually insists that CTAs are never responsible for exacerbating price action, an absurd claim rooted solely in self-preservation amid heightened scrutiny). But given the impossibility of measuring their exposure with precision ahead of time, just about the best anyone can do is point out when amalgamations of various momentum signals capturing different look-back windows suggest exposure is high, and then Monday-morning quarterback what happens later.
Take it for what it’s worth.