We would simply note that in the absence of leverage, one does not have to “freak out” when the market goes down. In fact, new and fresh, and long-term money should welcome this as an opportunity to add long-term performance optionality. So in a world constantly tinkering with asset allocation that sells on the way down and buys on the way up out of the innate self-preservation that comes from the use of leverage..we are the other guys. I would simply note that the universe of people who add capital to managers when things are miserable is..TINY…and they don’t publicize their discipline. The lines at CSC are open…wherever you are.
Clipped from the blog – The Diff – Byrne Hobart
Flighty Retail Investors
Stocks with heavy retail ownership are more prone to sudden crashes than other stocks, and retail investors have all sorts of other interesting traits—they’re more likely to trade stocks that are in the news, or that are up or down significantly in the last day. What all of these characteristics have in common is that retail investors are less informed about what they trade than institutions, and thus relatively more influenced by the bits of information they do perceive.
The extreme price drop relationship is particularly interesting. When an unlevered fundamental investor owns a stock, they’ll generally have some sense of what the company’s value is and an expectation that prices will fluctuate around that value. The more informed that valuation is, the less likely it is to be affected by one new data point. So these institutions will tend to stabilize the market by buying stocks that have dropped recently and selling ones that have risen (at least as long as they aren’t facing withdrawals). On the other hand, levered long/short institutions are forced, by their structure, to behave a bit more like retail investors; even if you’re confident in the fundamental value of a stock, if you’re working for a pod shopyou may end up forced to sell when it drops because you just got fired.³ The retail/institutional convergence should mean that there are more opportunities for patient institutional investors to trade opportunistically, but in practice those institutions have decreasing cash balances over time because they’re benchmarked to indices and it’s hard to beat the index without being fully invested.
It would be interesting to see if an investment product could be structured around these constraints—a long-only fund with a mandate of being 80% to 120% invested, and benchmarked to a 100% position in the S&P, so it would always have the liquidity to add to losing positions when other traders were getting liquidated.
