The Quant Crisis of 2018–2020: Cornered by Big Growth

Abstract

This article examines the performance of equity factor portfolios during the quant crisis of 2018–2020. The author finds that there was basically only one way to outperform during this period, namely by investing in the largest and most expensive growth stocks. Other factors were only effective to the extent that they provided implicit exposure to the same large growth stocks. Smaller stock portfolios underperformed across the board. Thus, there were numerous ways to fail during the 2018–2020 period but, essentially, only one way to succeed. Comparing the quant crisis with previous major drawdowns of the value factor, the author finds that these other periods are better characterized as momentum factor rallies with collateral damage for the value factor. Moreover, smaller stocks typically still offered possibilities for outperformance. The author concludes that the 2018–2020 quant crisis posed an exceptional challenge to quantitative managers due to a rare combination of circumstances.

TOPICS: Security Analysis and Valuation, factor-based models, statistical methods, financial crises and financial market history

Key Findings

• ▪ During the quant crisis of 2018–2020 there were many ways to fail but essentially only one way to succeed, namely by investing in the largest and most expensive growth stocks.

• ▪ Other factors were only effective to the extent that they provided implicit exposure to the same large growth stocks, and smaller stock portfolios underperformed across the board.

• ▪ Previous major drawdowns of the value factor were less challenging for multifactor investors because profits on the momentum factor exceeded the value losses.