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Research

What quantitative easing & uncertainties did to alpha

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The alpha generated by hedge funds and more broadly by active managers is influenced by multiple factors.

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Impact de l'assouplissement quantitatif et des incertitudes sur l'alpha
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The alpha generated by hedge funds—and more broadly by active managers—is influenced by multiple factors. Some are cyclicals and reflect macro and market dynamics. Other are more structural in nature, including the growth in indexed products and algorithmic trading, financial regulations, greater market access, faster information and portfolio transparency dissemination. Two factors, however, seem most decisive over recent years for alpha: quantitative easing, and more recently, surging policy uncertainties in most regions.

Quantitative easing left markets flushed with liquidity, with the Fed leading the charge, followed by the BoJ, ECB and others. This distorted risk premium and asset relationships, both pivotal for fundamental or quantitative styles. Witness the close relationship between trends in hedge fund alpha vs. the size of central banks assets. With monetary normalization firmly on course, more fundamental pricing and greater asset dispersion would lift key hurdles for active managers.

More recently, policy uncertainties surged in most regions. The surprise outcome of the Brexit referendum and intensifying disintegrating forces in Europe multiplied. Meanwhile, the US weaponized uncertainty as it attempts to alter the world trade order led towards more bilateralism, while heading-on confrontation with its growing Chinese rival. With deep and shifting repercussions on asset prices, policy uncertainties forced active managers to either take reckless bets or to continue reducing their exposures. 

While most of the threats will linger for years to come, some of these uncertainties could be less pivotal in a nearer future. The Brexit saga is likely to remain a messy process, but the odds of a disorderly divorce are on the decline. Meanwhile, with the perspective of the 2020 elections, US policies could become less market-disruptive, with a partial trade agreement with China increasingly likely. Another vital hurdle for active managers could start to ease, at least for a couple of years. In contrast, we note that geopolitics, which also intensified in recent years, did not stand as a primary driver for alpha.

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