Quantpedia Premium Update – 19th February

New strategies:

#830 – Size Factor vs. Monetary Policy Regime

Period of rebalancing: Monthly
Markets traded: equities
Instruments used for trading: stocks
Complexity: Simple strategy
Backtest period: 1937-2021
Indicative performance: 6.27%
Estimated volatility: 10.13%

Source paper:

Simpson, Grossmann: The Resurrected Size Effect Still Sleeps in the (Monetary) Winter
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4228692
Abstract:
Asness et al. (2018) demonstrate the reemergence of the size premium (SMB) once one controls for firm quality within time series regressions. We demonstrate that the size premium disappears during periods of monetary tightening and is present during periods of monetary expansion; whether or not one controls for quality. Meaning that the effect is dormant in periods of monetary tightening even after one controls for firm quality. Among the channels that easing monetary policy is likely to influence small firms differently than large firms are: a) a stock market liquidity effect, b) a firm-level (balance sheet) liquidity effect, and c) increased access to credit. In addition, we show that the size effect is not only present during business cycle troughs (as in Ahn et al., 2019), but is present in monetary easing periods outside of trough periods. Investors seeking to capture this premium would be well served to consider the Fed’s policy stance and the stringency with which the Fed is pursuing its policy.

#831 – Fund Flows Predict Emerging Markets FX Returns

Period of rebalancing: Weekly
Markets traded: currencies
Instruments used for trading: forwards, futures, swaps
Complexity: Complex strategy
Backtest period: 2006-2019
Indicative performance: 8.89%
Estimated volatility: 8.22%

Source paper:

Institute for Monetary and Financial Research, Hong Kong: Emerging Market Bond Flows and Exchange Rate Returns
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4310259
Abstract
We study the relationship between international bond flows and exchange rate returns for a panel of emerging market economies (EMEs). Specifically, we investigate whether international net bond flows are correlated with subsequent changes in the value of the local currency against the US dollar. Using a portfolio approach, we find evidence of a positive relationship between bond flows and future exchange rate returns of EMEs, which is not present for advanced economy currencies. EME currencies tend to depre- ciate following large bond outflows, while they tend to appreciate following inflows. A dollar-neutral portfolio that goes long in inflow currencies and shorts outflow currencies earns large excess returns that are not correlated with ones from known international portfolio strategies. Moreover, using an asset pricing approach, we find strong evidence that a risk factor implied by this result is priced in the cross-section of currencies. These findings are consistent with investors requiring compensation for the risk that countries experiencing large portfolio inflows today could be facing a future tightening of their aggregate financial conditions.

#832 – Presidential Fiscal News and Cross-section of Stock Returns

Period of rebalancing: Monthly
Markets traded: equities
Instruments used for trading: stocks
Complexity: Very Complex strategy
Backtest period: 1929-2020
Indicative performance: 6.17%
Estimated volatility: 15.05%

Source paper:

T. Nguyen, My: Presidential Fiscal News and Cross-section of Stock Returns
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4311379
Abstract
Implementing textual analysis, this paper constructs the long time-series Fiscal News Index based on a large sample of U.S. Presidential Speeches between February 1929 and December 2020. The Fiscal News Index is a priced risk factor in the cross-section of stock returns. Investors demand higher expected returns for holding stocks with high exposure to Fiscal News Index. A long short trading strategy based on this risk factor generates an average excess returns of 8.2% annually with a Sharpe ratio of 0.86. Empirical results also suggest better ability of Fiscal News compared to other business cycle indicators in terms of pricing cross-section of stock returns.

#833 – Skewness factor in Chinese Equities

Period of rebalancing: Monthly
Markets traded: equities
Instruments used for trading: stocks
Complexity: Complex strategy
Backtest period: 2015-2020
Indicative performance: 22.58%
Estimated volatility: 23.03%

Source paper:

Zhen, Fang: Market Volatility and Skewness Risks in China
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4061615
Abstract:
I examine the pricing of risk-neutral market volatility and skewness risks in the cross-section of stocks in China. I find that stocks with high exposures to innovations in volatility or skewness exhibit low expected returns. Market volatility and skewness are economically important and command risk premia of 2.32% and 1.88% per month, respectively. In contrast to the US, innovations in volatility (skewness) exhibit less (more) negative contemporaneous correlation with market returns. These relationships provide a hedging explanation for my results. The negative risk premium of volatility is robust to empirical settings, whereas that of skewness is sensitive to testing methods.

#834 – VIX Beta Factor in Chinese Equities

Markets traded: equities
Instruments used for trading: stocks
Complexity: Complex strategy
Backtest period: 2015-2020
Indicative performance: 27.88%
Estimated volatility: 19.95%

Source paper:

New research papers related to existing strategies:

#646 – Post-Earnings-Annoucement Drift Using NLP on Earnings Calls

Hafez, Peter and Matas Navarro, Ricard and Gomez, Francisco and Kangrga, Marko: Three Trading Signals Generated Systematically from Earnings Conference Calls
https://ssrn.com/abstract=4323558
Abstract:
In this paper, we use RavenPack Transcripts to build three independent trading signals originating from earnings conference calls: 1) Event Sentiment: based on key events identified throughout the call 2) Document Sentiment: using a new machine learning technique to measure the sentiment of every sentence transcribed from the call and 3) Transparency: looking at the number of market moving events disclosed by the management team. Our backtests of long-short dollar-neutral portfolios show that: (1) Document sentiment is the best performing standalone signal, with Information Ratios above 1.1 for U.S. Mid/Large-Cap and upwards of 2.0 for U.S. Small-Cap companies over shorter holding periods (2 days to 1 week) and around 1.0 and 1.7, respectively, for holding periods of about 1 month. (2) Combining the three signals enhances strategy performance, with IRs of 1.4 for U.S. Mid/Large and 2.3 for U.S. Small-Caps over shorter holding periods. Monthly holding period IR for U.S. Small-Caps increases to 2.0. (3) Combining transcripts with RavenPack News Analytics enhances the performance of the U.S. standalone news sentiment strategy across nearly all holding periods.

#528 – Equity Factors and Corporate Bonds

Heckel, Thomas and Amghar, Zine and Haik, Isaac and Laplenie, Olivier and Carvalho, Raul Leote de: Out-Performing Corporate Bonds Indices With Factor Investing
https://ssrn.com/abstract=3697872
Abstract:
We considered a large number of factors from value, quality, low risk and momentum styles and show that these factors can be used to select the corporate bonds with the highest risk-adjusted returns. Our results were confirmed for the three largest corporate bond universes, namely those defined by U.S. Investment Grade, Euro Investment Grade and U.S. High Yield benchmark indices. The factors we investigated can be used to create investment strategies designed to out-perform these benchmark indices by over-weighting the cheapest bonds with the strongest performance trends from the most profitable, better managed and less risky companies.

#568 – Momentum effect in Chinese B-shares
#741 – Combination of the Long-term and the Short-term Reversal in China
#792 – Retail Equity Reversal in China

Tarek, Amira and Ali, Heba and Mohamed, Ehab K. A.: Market Frictions and Momentum Premium: Does Stock Mispricing Matter? Evidence from China
https://ssrn.com/abstract=4249820
Abstract:
This study examines if both market frictions and stock mispricing provide better explanation of the momentum premium, compared to the conventional asset pricing models. Using a large sample of 3727 companies listed on the Chinese stock market from 1999 to 2018, we show that winner stocks are associated with larger market frictions and stock mispricing. Our findings reveal a new empirical evidence that momentum premium can be attributed to market friction risk-factor but additionally explained by a mispricing component

#77 – Betting Against Beta Factor in Stocks
#78 – Betting Against Beta Factor in International Equities

Bollerslev, Tim and Patton, Andrew J. and Quaedvlieg, Rogier: Granular Betas and Risk Premium Functions
https://ssrn.com/abstract=4258489
Abstract:
We propose new refined measures of the local covariation between the return on an asset and a risk factor. Our proposed “granular betas” generalize the notion of up- and down-side betas to multi-factor functional measures of covariation. We then show how the resulting granular beta functions may be used in the estimation of new “risk premium functions.” Implementing the proposed new methods with a large cross-section of U.S. equity returns, we find significant evidence against the traditional (non-granular) CAPM, the Fama-French three and five-factor models, and the Fama-French-Carhart model in favor of the new granular versions of these models. Our empirical results also provide new insights into where in the “factor space” the compensation for exposures to systematic risks is mostly earned.

#562 – Betting On and Against the Right Semibetas

Hwang, Soosung and Rubesam, Alexandre: Multi-facets of Beta
https://ssrn.com/abstract=4241990
Abstract:
We revisit the relationship between betas and cross-sectional asset returns by investigating asymmetric responses of stock returns to the market portfolio return. We demonstrate that post-formation portfolios, commonly used in asset pricing tests to avoid accepting false hypotheses, tend to reject the null hypotheses far more than expected. Using contemporaneous betas and returns in the asymmetric response model, we find that up and down betas, together with bid-ask spread or idiosyncratic volatility, explain cross-sectional asset returns, with coefficients on up betas far exceeding those on down betas. Various firm characteristics explain the difference between up and down betas. In particular, large capitalization, value, past winners, and profitable stocks respond to the market much more than other stocks when market returns are positive.

And several interesting free blog posts have been published during last 2 weeks:

Evaluating Long-Term Performance of Equities, Bonds, and Commodities Relative to Strength of the US Dollar

The US dollar is the world’s primary reserve currency, is the most widely traded currency in the world (making up over 85% of all foreign exchange transactions), and is used as the benchmark currency for pricing many commodities such as oil and gold. We can say that the US dollar is the blood of the current financial system. A few months ago, we shared how to build a really long-term (nearly 100 years long) history of the USD exchange rate. Therefore, as we already have the data, we can now perform the cross-asset analysis to study the impact of the US Dollar’s strength or weakness on the performance of other asset classes, notably US equities, US treasury bonds, and commodities.

Investigating Price Reaction Around Bitcoin & Ethereum Events

Cryptocurrencies are a high-risk and very speculative asset class that, from being used only by tech geeks worldwide, spread from small retail craziness of early adopters to institutional adoption and mainstream. Some claim it to be a world-changing concept with the utilization of blockchain (databases) and smart contracts that open a wide range of opportunities, from decentralizing finance to self-governing algorithms; some others point to unnecessary scams, money laundering, and bubbles. We have been covering the concepts and topics relating to crypto extensively. This article will continue our investigation of this interesting field. We would like to test how the price action looks around some of the events unique to the cryptocurrency world – namely the Bitcoin reward halvings and hard and soft forks in Bitcoin and Ethereum networks.

An Investor’s Guide to Cryptocurrencies

Cryptocurrencies are an asset class that isn’t easy to ignore in the modern world. In February 2023, the crypto market capitalization was at around $1.1 trillion, which is roughly half of the value of all U.S. notes and coins in circulation. With their properties quite different from other investment options, it might prove useful to an investor to understand and navigate this market well. The authors Campbell R. Harvey, Tarek Abou Zeid, Teun Draaisma, Martin Luk, Henry Neville, Andre Rzym, and Otto Van Hemert in their paper An Investor’s Guide to Crypto (July, 2022), offer an overview surely interesting for anyone willing to enter this market.