As if the market didn't need more sand kicked in its eye, a rebalance of a major quant strategy could put more technical selling pressure on tech and financial names as they suffer.
BlackRock’s iShares MSCI USA Momentum Factor ETF (ticker MTUM) is facing its latest semi-annual rebalance, with the fund’s underlying index due to start the process next week.
Momentum names have been under pressure in the last few days as Value caught a bid...
Wells Fargo's Chris Harvey estimates that a whopping 75% of the smart-beta product’s holdings will be turned over in favor of sectors that gain from elevated inflation like value and energy, at the expense of technology names.
At the same economically sensitive companies like banks will likely be slashed in favor of defensives like health care.
“Our preliminary estimates indicate a wholesale renovation,” Harvey wrote in a note.
“Momentum holdings are expected to re-align with value and take on old-school defensive traits: lower price volatility, more stable earnings, larger size, and steadier dividends.”
This sector shuffle will likely lower the overall volatility of the ETF. As the following chart of sector vols shows, while an increase in Energy's allocation will raise overall vol, a reduction in Tech and Financials will cut it and adding more 'low vol' Staples and Utes will significantly lower the overall volatility in the fund.
A look at the S&P's implied correlation offers some more insight. A rising implied correlation suggests the index vol is rising considerably more than the individual names in the index.
But given that VIX has not been rising dramatically, this suggests a notable dispersion among the individual names (or sectors) is already occurring.
Finally, we consider what happens next? Last year's rebalance followed a similar path into the shuffle, then ramped after...
We could see a similar reaction as traders reach for something more 'stable'.
“Post-rebalance MTUM will have a lot in common with low-volatility funds, based on our analysis, with an expected 56% of MTUM’s projected weighting falling into the lowest-volatility quintile of the Russell 1000,” Christopher Cainand Athanasios Psarofagis wrote in research last week.
Is this the turning point in Energy vs Tech... just like at the DotCom Bust?
But, given the relatively strong correlation with the broad market, it is likely more a relative, than absolute, bet to buy the momo dip.
Thu, 05/19/2022 - 14:40