FINA3327 Tutorial 8

Tutor: Frankie
Retail investors
 Weaker tendency to distinguish returns from alpha vs
beta
 ETF generally a better investment for them for:
 Very low management fee, no incentive fee
 Diversified portfolio (despite strong market exposure)
 Highly liquid relative to hedge funds
 Satisfactory absolute performance
Alternative ETFs
 ETFs can also offer leverage and shorting like hedge
funds nowadays
 Examples other than Direxion Bull 3x mutual fund:
 TQQQ: ProShares UltraPro QQQ, 300% long exposure on
QQQ
 SQQQ: Proshares UltraPro Short QQQ, 300% short exposure
on QQQ
 QQQ: Invesco QQQ Trust, value-weighted Nasdaq Index
ETF
Alternative ETFs
 How is TQQQ replicated for 300% daily long exposure?
Long Nasdaq Index portfolio with position 300% of
AUM, borrow very cheaply with around 200% of AUM
(equity swaps)
Buy out of the money put option to limit losses to initial
investment
Positions are rebalanced daily
Fees charged 0.95% per year, quite low but long term
performance may deviate considerably from QQQ
without leverage
Alternative ETFs
 How is SQQQ replicated for 300% daily short exposure?
Short Nasdaq Index portfolio with position 300% of
AUM, long risk free assets around 400% of AUM (equity
swaps)
Buy out of the money call option to limit losses to initial
investment
Positions are rebalanced daily
Fees charged 0.95% per year, quite low but long term
performance may deviate considerably from shorting
QQQ without leverage
Review Exercises 9 Q1d
 Fees of equity swap increases with leverage ratio, why?
 With more leverage, consider the likelihood for the bank
to pay for the put option
 Direxion 3x fee has alpha of -2.6% per year, contractual
fee f(N) = 2.6%/3, approximately 0.9% per year.
 Plain vanilla equity swap, banks receive fixed fee and
pays market return, with negative expected return. Why
banks still take this contract?
 Would institutional investors prefer receiving fixed return?
Review Exercises 9 Q1d
 Banks can ultimately profit for this scheme, as they:
Charge higher fixed fee to investors demanding
market return
Pays lower fixed fee to investors demanding fixed
return
Resulting in net positive return
Trends in hedge fund market
 Large, systematic funds are more popular nowadays
 New funds face slower growth than in the past, as
committee of institutional funds focus more on
reputation (career concerns)
 With the same reasoning, quant funds with systematic
approach are also preferred
Risk Parity
 Pioneered by Ray Dailo in Bridgewater, this strategy
keeps overall volatility fixed by holding less equity during
volatile markets, generates significant alpha
 Generally very effective and many funds (including
mutual funds) use this strategy nowadays
 Common application of risk parity leads to even larger
and correlated asset price swings during volatile market
 Increase systemic risk of funds, even Bridgewater lost a
lot in 2020
Hedge fund activism

 Analysing 13D filings daily and longing stocks with recent

activism from hedge funds, is it profitable?
 Hedge fund typically owns 10% or smaller share of
companies under activism
 With such a small share, how can the fund influence the
company?
 Is it possible to further improve the above trading
strategies by analysing 13D filings?