Quant investment firm of the year: Aspect Capital

Risk Awards 2023: Asset manager’s bullishness about bear markets pays off

Anthony Todd
Aspect Capital co-founder Anthony Todd

For much of the past decade, as investors rode a bull run in stock and bond markets, trend-following funds performed poorly by comparison.

Those with weaker constitutions might have started to doubt the strategy. However, Aspect Capital co-founders Anthony Todd and Martin Lueck never doubted that when a prolonged bear market finally came to pass, they would be well-placed to reap the rewards.

And so it proved. Fast-forward to December 31, and the Aspect Diversified Programme had delivered 40.46% for the year.

“Over the last decade, those competitors of ours that had a long bias in stocks or bonds might have outperformed us,” Todd says. “But we very much set out that this is the utility of the programme, this is what we’re trying to achieve. So no, we were never shaken from our belief. And obviously, [in 2022] we’ve seen exactly those conditions – a strong bear market in stocks and a bear market in bonds. And because we’ve got no bias, we’ve been able to capture strongly diversifying returns for investors.”

Martin Lueck
Martin Lueck, Aspect Capital

The main driver of this performance – the shift in view among central banks, beginning in 2021, that inflation was not a transitory phenomenon but was becoming embedded in the financial system – will come as no surprise to anyone plugged into the news. Soaring costs were already having an impact on economies at the turn of last year and the effects were amplified by Russia’s invasion of Ukraine, which created additional disruption in supplies of food and energy.

Aspect targets medium-term trends over periods of two to three months or longer in deep liquid markets. The asset manager’s most profitable sectors in 2022 were fixed income, energy and currencies.

In bonds, one of its most profitable positions involved going short on UK government debt, a bet it has held since September 2021. In currencies, outperformance came from long positions in the dollar against both the pound and the yen. One of the most profitable metals markets was copper: during the supply bottlenecks at the beginning of the year, Aspect had a long position but, as the worsening economic outlook caused investors to shift their focus, there were times when the firm flipped and held short positions.

Trend following has an 80% allocation in Aspect’s diversified programme. The remaining 20% is taken up by modulating factors – other persistent drivers of market behaviour, such as carry, seasonality and relative carry. This helped the firm deliver in months when trend-following was not fruitful – such as November, when benign inflation figures in the US led to sharp rallies in the bonds and equities markets.

“Although our performance last year was very much dominated by a trend-following approach, our modulating strategies generated material positive performance in months such as October and November, in both currencies and stock indices, and particularly in our sentiment models,” Todd says.

Aspect has also benefited from a risk overlay over its trend-following and other models, which it refers to as tactical risk targeting (TRT). The goal of TRT is to steer risk taking by analysing Aspect’s different signals, assessing their relative strength and the levels of diversification offered by different strategies, and then increasing or reducing allocations accordingly. This was beneficial from Q3, when inflation became the dominant theme of the markets.

“As is natural when macro themes become entrenched and dominant over a period of several months, most assets start to become sensitive to that theme,” Todd says. “And despite trading a few hundred markets, quite a lot of them start to co-move, and many of the strongest signals had faded as well once trends had become extended. Against this backdrop of lower convictions and narrow breadth, the TRT model actively reduced the natural gearing of the overall portfolio, thus insulating the strategy from the ensuing reversals in the later months of the year.”

All of this ties into Aspect’s overarching philosophy of delivering performance for investors irrespective of the direction in which the markets are heading.

This “no bias” mindset was developed back in 1997, when trend following was generally regarded as highly volatile and lacking in transparency. Institutional investors did not see it as a compelling proposition, but Aspect’s co-founders spotted an opportunity.

“What Martin and I saw back in the mid-1990s was that trend following was a performance stream that could potentially provide a very valuable diversification to institutions,” Todd says. “The reason institutional investors were looking at the space in the first place was because they wanted that diversification of performance. They wanted those uncorrelated returns particularly during challenging market environments, such as the markets for stocks and bonds. And it was that – responding very much to that client demand, to what they’re looking for – that led us to build that philosophy. We wanted to have no bias of any sort whatsoever in our models.”

Aspect’s approach is different from relying wholly on historical data – which, Todd says, would lead a trend follower to maintain a long bias in stocks and bonds. In quant terms, the “position function” – the mechanism by which a firm generates trade decisions from its signals – would tell the asset manager to go long when signals were neutral.

A long bias, though, would mean underperformance in a drawn-out bear market – which, Todd says, is when investors value the diversification of managed futures investing the most.

The first big test for Aspect was the tech crash in the early 2000s, when the firm was able to take an unbiased position towards choppy stock markets and generate the diversified returns investors were looking for. The same core philosophy served Aspect well in 2022: during a period of falling stock and bond markets throughout much of the year, and a rallying in energy markets and the dollar, the firm was able to capture those trends successfully.

Aspect was also able to diversify the timeframe of the trends it was following. The firm has eight different time filters, all of which generated positive performance in 2022. Todd says that although such levels of performance are not unprecedented, they are quite unusual. The slow filters have been most profitable in bonds and energy, given the long-term decline in the former and the long-term rally in markets such as natural gas. The next most profitable were the fastest filters – those with holding periods of a few days or weeks – in stock indexes and metals.

According to Todd, the faster models were the most profitable in markets that were slightly noisier and where there were no significant longer-term trends.

“In the early part of the year, we saw a significant decline in stock markets,” he adds. “But since then, we’ve had a couple of quite material rallies and we’ve seen noisier performance. In markets such as copper, again, the driver at the beginning of the year was the supply disruptions, and in the latter part of the year it was concerns about recessionary fears in the global economy.”

Looking ahead

As the new year begins, Aspect is looking to build on its successes. It is broadening the range of markets in which it trades – and particularly those that can provide valuable diversification, such as sovereign credit default swap indexes – and exploring ways to apply its strategies using customised baskets of stocks.

The firm is also researching ways of improving the responsiveness of its time filters – from its medium-term filters through to its very fastest ones. This will involve looking at cross-sectional signals as indicators of broad shifts in sentiment.

“The aim is to improve the responsiveness and the ability of our faster filters to actually adapt to a broader range of market environments,” Todd says. “We are optimistic that is something we’ll be introducing into portfolios during the first half of the year.”

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