Paul Tudor Jones Apparently Hit A Nerve With His Dire Warning (Asness, Fischer et. al.)

Yesterday the FT's Izabella Kaminska directed our attention to this article:

It's feeling toppy out there https://t.co/HZjKqf24Uf

— Izabella Kaminska (@izakaminska) April 21, 2017

Of course the timing of the toppy trigger getting pulled will be very news driven, French election outcomes, for example, could be the rationale for a 5% up-move or a 15% drop in developed country indices.
Just as interesting is the scalded-cat reaction of some folks to what Jones said.

First up, the article that started it all, from Bloomberg April 20 with an update April 21: 

Paul Tudor Jones Says U.S. Stocks Should ‘Terrify’ Janet Yellen

• Says U.S. market cap to GDP ratio highest since 2000
• Stocks could rise higher after next month’s French election

Billionaire investor Paul Tudor Jones has a message for Janet Yellen and investors: Be very afraid.

The legendary macro trader says that years of low interest rates have bloated stock valuations to a level not seen since 2000, right before the Nasdaq tumbled 75 percent over two-plus years. That measure -- the value of the stock market relative to the size of the economy -- should be “terrifying” to a central banker, Jones said earlier this month at a closed-door Goldman Sachs Asset Management conference, according to people who heard him.

Jones is voicing what many hedge fund and other money managers are privately warning investors: Stocks are trading at unsustainable levels. A few traders are more explicit, predicting a sizable market tumble by the end of the year.

Last week, Guggenheim Partner’s Scott Minerd said he expected a “significant correction” this summer or early fall. Philip Yang, a macro manager who has run Willowbridge Associates since 1988, sees a stock plunge of between 20 and 40 percent, according to people familiar with his thinking.

Even Larry Fink, whose BlackRock Inc. oversees $5.4 trillion mostly betting on rising markets, acknowledged this week that stocks could fall between 5 and 10 percent if corporate earnings disappoint.

Caution Flags
Their views aren’t widespread. They’ve seen the carnage suffered by a few money managers who have been waving caution flags for awhile now, as the eight-year equity rally marched on.

But the nervousness feels a bit more urgent now. U.S. stocks sit 2 percent below the all-time high set on March 1. The S&P 500 index is trading at about 22 times earnings, the highest multiple in almost a decade, goosed by a post-election surge.

Managers expecting the worst each have a pet harbinger of doom. Seth Klarman, who runs the $30 billion Baupost Group, told investors in a letter last week that corporate insiders have been heavy sellers of their company shares. To him, that’s “a sign that those who know their companies the best believe valuations have become full or excessive.”...MORE

This was followed by the Vice-Chairman of the Federal Reserve Board saying on CNBC:
"Fed's Fischer: Stock market volatility doesn't terrify me"

Back to Bloomberg, who also caught the Fed man's comments,  

Quants Fire Back at Paul Tudor Jones After His Attack on Risk Parity

• Macro manager sees strategy as driver for next stock selloff
• Risk parity didn’t dump all stocks in last correction: AQR

Paul Tudor Jones says automated trading strategies are poised to blow up the market when volatility returns. That’s not going over well at one of the biggest quant shops on Wall Street.

Speaking at a closed-door Goldman Sachs Asset Management conference earlier this month, the billionaire hedge fund investor said that a portfolio strategy known as risk parity will eventually act as “the hammer on the downside” when turmoil returns to equity markets.

For AQR Capital Management LLC, a giant in the risk parity field, the concerns are overblown, with any selling forced by the strategy having an “utterly trivial” impact on the $23 trillion U.S. equity market.

“There are scenarios in which risk parity funds sell equities, but the possible magnitude of that is very small,” said Michael Mendelson, a risk-parity portfolio manager at AQR.“Some reports have grossly exaggerated the potential impact.”

Jones, who oversees $10 billion in his Greenwich, Connecticut-based Tudor Investment hedge fund, is the latest active asset manager to whip up fears surrounding the automated strategies that were a favorite target of bank researchers during the selloffs in August 2015 and early 2016. The strategy has less than $150 billion invested in it, according to data provider eVestment, most of at AQR and Bridgewater Associates’ All Weather Fund.

That’s significantly lower than the roughly $500 billion that some have estimated. And of that total, only around a third is investing in equities, Mendelson said. That compares to the nearly $2 trillion in market value that evaporated from U.S. equities during the last stock market correction.
“Even on a sharp move in the stock market, the positioning changes would be utterly trivial and would have about zero impact,” Mendelson said.

A spokesman for Paul Tudor Jones did not immediately respond to an email request seeking comment.

Cash Fleeing
Risk parity bases its allocations to different asset classes on risk rather than capital, as in the typical 60-40 stock-bond fund. So, for example, U.S. Treasures and international government bonds often play a larger role in risk parity funds than in other asset pools, while stocks usually take up a smaller slice.

In addition, money has fled risk parity funds in seven of the past nine quarters, for net outflows of more than $16 billion among funds tracked by eVestment....MORE

Finally, ZeroHedge who had posts on both Bloomberg stories has this interesting note:

...To be sure, Qian did hit Jones where it hurts: right in his performance, or lack thereof. “First you had Leon Cooperman and now it’s a hedge fund guy,” said Qian. “Any time performance isn’t doing well, they just blame risk parity.”

That however, does not change the fact that both Kolanovic and Jones are right (for more details see "One Year Later, This Is What Would Prompt Another "Risk-Parity" Blow Up"). And since volatility now appears to be rising, and sharp moves in both equities and bonds are likely on the immediate horizon, we present one of our favorite charts: the risk parity deleveraging sensitivity analysis. As BofA showed last summer, the most risk of deleveraging from vol controlled risk parity funds comes when both volatility and correlation of the underlying components rise together (i.e. quadrants 2 and 3 in the chart below).

In other words, a day which sees a -4% SPX drop and +1% bond rally (good diversification) would generate no selling pressure, "underscoring the critical role played by bond-equity correlation in governing the severity of risk parity unwinds." However, a troubling scenario is one where even a relatively benign 2% selloff of the S&P coupled with just a 1% selloff of the 10Y could result in up to 50% deleveraging, which in turn would accelerate further liquidations by other comparable funds, and lead to a self-fulfilling crash across asset classes.

We look forward to those two market conditions being met and watching the market's response as only that "experiment" will finally resolve the debate over whether risk-parity is the market's most pressing, imminent time bomb.

--"Risk Parity Lashes Out At Paul Tudor Jones' Apocalyptic Forecast"

Also at ZH: "Fed's Fischer Responds To Paul Tudor Jones"