The term “stock-picker’s market” is a bit trite. But it may turn out to be the best way to describe the post-credit bubble environment for equity fund managers. For simple longs — and even shorts — the days of easy money are gone. For those who excel at separating winners and losers, however, it’s an opportunity to shine.
In the throes of panic, investors don’t bother much with details. When the headlines are grim, the good, bad and ugly stocks tend to get beaten with the same stick. In quant-speak, this phenomenon is borne out in recent research by Credit Suisse that shows the intra-portfolio correlation of the S&P 500 index near its highest levels in two decades.
While the calculations involve a heavy concentration of Greek letters, the message is rather intuitive: When correlations among constituents of the index are high, stocks tend to move in synch with one another. That’s good news for funds that make big directional bets. Macro funds and dedicated short-sellers were among the best-performing hedge fund strategies in the first quarter.
But a high correlation environment makes it fiendishly hard for stock pickers to earn their keep by separating winners and losers. That has befuddled some high-profile traditional managers such as Legg Mason’s Bill Miller. Long-short managers have suffered as well, underperforming their hedge fund peers since the start of the year.
With correlations starting to unbuckle, better days may lie ahead. That’s not to say the US market has hit bottom. But as the dust settles, savvy stock-pickers may have an easier time justifying their fees.