Posted on 09/28/2007 11:40:39 AM PDT by oblomov
SMART investors love crises. People panic, everything gets out of whack, securities get cheaper, and the world gets more interesting. Academic types also love crises because they produce data, which prompts questions and every once in a while produces some answers.
August, the month in which everything went awry on Wall Street, offered up fascinating data. The financial world trembled, which it does every so often, and even though everyone seemed to know it was coming, everyone seemed surprised.
Two recent papers, one academic and one written for investors, examine the August unwind. They reach similar conclusions about risk (there is more of it) and the cause of the collapse (an unknown multibillion-dollar fund unwinding), but they differ slightly on what it means for the types of hedge funds that were most affected.
In separate papers, Andrew W. Lo, a professor of finance at the Massachusetts Institute of Technology who just sold his hedge fund, AlphaSimplex, and Clifford S. Asness, the founder of AQR, a $37 billion hedge fund, conclude that the market craziness started when a large multistrategy fund or a proprietary desk suddenly started to dump its positions in early August.
That set off a wave of deleveraging, or selling, that in turn caused stocks to do strange things. Specifically, cheap stocks, or value stocks, got pummeled, and expensive stocks, or popularly shorted stocks, rose. This caused a lot of pain on the street, especially among quantitative hedge funds, or quants.
Professor Lo’s research, which builds a very basic quantitative model and then tests what would happen to it during the August unwind, concludes that the proliferation of hedge funds using similar investment strategies has led to more risk in the system.
(Excerpt) Read more at nytimes.com ...
There are only two factors governing the investment market of stocks: Greed and Fear.
Hmmm.
Very interesting, especially given the news today that consumer spending went up in September.
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