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Bloomberg: AQR’s Cliff Asness on 60/40 Strategy, Market Risks

AQR Capital Management Managing and Founding Principal Cliff Asness discusses AQR’s 60/40 portfolio strategy and the risks facing financial markets with Sonali Basak and Guy Johnson on “Bloomberg Markets.”

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You are coming off this record year at least a dozen funds here coming off record performance do you feel Vindicated by the strategy at all um I personally don’t know what feeling Vindicated really feels like um I feel I guess partially Vindicated uh you know it’s very nice you guys talk about what

A great year was last year but 18 through 20 was terrible for us we’ve made all that back and more so yeah there is some Vindication in that but frankly I think there are a bunch of things we trade that are still pretty dislocated so I don’t think I ever will

Feel fully Vindicated that there’s a sense of being at peace Suite yourself that I just will will never attain but another year or two that I expect I’ll probably get a lot closer to feeling that way what have you learned over the last couple of years to the point you’re

Making it was a couple of tough years before you got into that rebound sure what have you learned and do you have any faith that gives you the sense that you’re going to keep this performance up this year into next year you know I guess one major thing we learned is

Exactly how wrong I can be um we started our firm about an hour and a half before the 1999-2000 tech bubble if you’re if your viewers can’t tell I’m pretty old um I know most people have not experienced that live it was a terrible start for us in a very similar

Environment through 18 through 20. we came up with measures to go how crazy is it what are the you know you can always sort Stocks by your favorite valuation measure you know you pick your own price to sales price to earnings per price to something more proprietary you

Can always get cheaper and expensive in the tech bubble they went to Crazy differentials if you had asked me back then will I ever see that in my career again I would have made one of the classic mistakes in in finance in fact I implicitly did make this mistake even if

Nobody asked I would have said nah that was the one in 100 Year craziness and then um even before covert but certainly with covid we saw something on our measures considerably crazier than the tech bubble so it was yet again it’s a lesson we all have to learn multiple times

Markets can be crazier than you think how much are we still in a bubble right now okay um I could torture everyone about how to define a bubble no one really knows I I Loosely think of it as prices where you find it’s very you have to make very

Very unrealistic assumptions you can’t come up with assumptions you think are at all reasonable to justify these prices I think the difference between cheap and expensive stocks I don’t like calling them value versus growth because sometimes the cheap stuff actually grows but value versus growth as the world

Calls it I would use the word bubble for where they were in late 2020 I don’t think looking at all of recorded history there was any outcomes when fundamentals that would end up justifying that the stock market at the end of 2021 and the bond market 60 40 portfolio we

Thought was priced to its lowest expected return ever stock prices were very high against fundamentals and bond yields compared to expected inflation even before inflation took off were very low there I’m a little less willing to call it a bubble it is possible the world

Wakes up and goes we will accept a lower return more Savers than than invest than consumers blah blah um I would say the stock market and value versus growth have come back decently but the world is way too quick to see one year and go all right we

We’re done with that we fixed it um they had 10 years of going the other way so I think both of those I think we’re probably still in a bubble in cheap versus expensive I wouldn’t call the overall Market a bubble anymore I would just say it’s a very expensive Market

Cliff good morning it’s guy hi guy okay let’s okay let’s talk about timing then so we’ve had a year and things have started maybe to to recalibrate but as you say the previous period was 10 years long so how long could the current period last

We we do find in general and and some of our investment products are explicitly built around Trend following even though I talk about value uh all the time um whatever’s been happening does tend to keep happening in the same direction at least a little more than it does it

And when you see really crazy things which again I think is fairly rare and again an extra University of Chicago guy like myself doesn’t like the word bubble but when you see things that you think of bubbles they take a long time typically to reverse they you don’t come in one day

And find the world’s just back to what you consider normal um a lot of people believed in it a lot of people think once it started to move they’re getting a bargain and the bargain is buying something that’s 20 cheaper than last month but 300 more expensive than it should be um so

Tend not to make great hero timing calls when I’ve tried I’ve had to write apology letters six months later even with calls that are ultimately worked out and we stuck with it’s very hard to to you know the market can do whatever it wants in the short term but

I do think it is more likely this continues and from a portfolio perspective sorry go on so with the benefit okay so it looks like we’ve had a pivot you’re spending a lot of time talking about sort of time here but you don’t want to talk about

Timing because as you say that’s a difficult thing to do but with with one year of hindsight do you think we have had a pivot and and the market has changed this is a fundamental shift in the way that we should perceive the market this is a

Timing shift as well as as well as a valuationship all right I I I’ll take more risks with my next comment uh first of all yes over the last year we suddenly certainly saw a huge shift we saw the market reprice to cheaper and the differential between very expensive

And very cheap stocks come in fairly dramatically to still a extremely high differential so that’s the part you got to keep in your head it’s come in a lot and yes I do believe this will continue I just feel much stronger about diversifying and making sure you have

Exposure to this there’s always a chance that the trend reverses for three months before it continues again and people panic almost every correction we’ve seen of big dislocations have had some massive kind of uh rallies back towards crazy within them so there I I’ve learned to be scared of that but yeah I

Will go out on a limb and say I do think you want this now so so let’s talk about the risks that we may not see on the surface you went to the Chicago school I went to the Tom Keane School apparently and he’s asking about the Epsilon what

Is the systemic risk the fat tails that can kind of complicate your investing thesis and frankly the investment thesis for a lot of the market okay I’m not a macroeconomist and and sometimes I do try to play one on TV and I always get myself in trouble but I

Think the fat-tailed event probably is America economic the world is currently thinking inflation comes down a lot you know we see five percent cash yields but inflation’s still running around six percent now you’re still getting a negative real yield on on on cash um equities are still priced very high

Versus history so they’re kind of priced assuming inflation comes back down and that doesn’t really affect their Top Line because if inflation comes back down there’s some pricing power to that it gets political a lot of people complain about the pricing power of corporations in inflationary times so I

Again I won’t be courageous enough to make a prediction but I will say there’s a risk uh may not be disastrous for for the world for the average person but there is a risk that the macro economy delivers results that markets are still woefully unprepared for so how do you

Prepare for that then I mean if you think about the 60 40 assumptions you’ve recently made you have started to pitch more diversification it’s not great in terms of historical returns of course you’re expecting three percent over the median term but what’s the case here to

Buy bonds what’s the case here to take on risk in this market um first it gets back to the cowardice over timing UH 60 40 uh for one I don’t know anyone who actually owns a 60 40 portfolio by the way but we’re all legally required to speak about 60 40.

If we talk diversification education I think it has a positive expected return you said three three percent it’s over inflation um I can’t prove that’s lower than history which has been more more like four and a half but it was 1.9 at the end of 2021 and that I thought again I’m

A little scared to call it a bubble but I thought it was was pretty pretty extreme um so I still I don’t think you want to have certainly not know or short these markets there’s still a risk premium and you can’t time it almost by definition and I apologize for this my

Recommendations will sound a lot like what I do for a living I I find it almost impossible to because we’re allowed to do different things it has to be that way but I think this value trade as guy asked me about and got me to go out in a lemon still has

Quite a ways to go um we prefer adding some to a portfolio that’s that is actually a little bit more of an alternative long cheap and short expensive that that dramatically lowers pretty much to zero the correlation with markets and you’re really only taking a risk on on the differential

Um and we still like Trend falling a macroeconomic volatility tends to be good for Trend following one of the problems Trend following had post GFC was about nine ten years of of unidirectional boring nothing going on right and I want to copy on that for a minute here because you have for example

One of your big rivals on the market if you will you know a letter from universit to investors recently talking about kind of trend following as a hedge here as a hedge over a long period of time you’ve acknowledged that it hasn’t always worked out oh yeah

Um you know you mentioned Universal what what I don’t know exactly what they do it’s shrouded in secrecy but a fair amount of it is always being what’s called long volatility the simplest version of this which I’m not saying is what they do is to always be

Owning puts and rolling them that is one form of insurance it has two aspects it really only ensures and this is good but it only ensures against short sharp crashes because that’s what it is second it’s the bad property we believe it costs you money long term and we

Think that just makes sense if you want Insurance you should have to pay for it Trend following doesn’t always work as you said in March of 2020 when we saw a gigantic drop and then a comeback immediately wasn’t a disaster but Trend following didn’t protect you because there was no Trend

To follow Trend following does has two other aspects though it does particularly well in long extended tough markets because by definition there’s a trend to to jump on and I think those are actually more important than crashes frankly they’re more damaging to long-term wealth second in our real life

Experience and in 200 years of back tests it actually unlike buying puts makes you money on average so it is imperfect insurance better insurance at a longer Horizon than than puts and pays you instead of being paid but I’m not totally against the portfolio of the two someone who

Wants a really insure against Tails might want to do some of both that assumes Cliff that the market is functioning liquidity liquidity is tightening right now I are you seeing any impact from that is that something you worry about actually mentioned the tail risks out there

How do you see how do you do you see a risk coming from liquidity and how would you how would you see that affecting you yeah I mean I’ve worried about this uh since uh Graham died um when when we had to move a lot of position risk away from Banks and and

And you know where’d that buffer uh go um we do see liquidity getting a little bit worse uh the the cleanest place to measure it is probably the over-the-counter bond market um they’re not dramatic but we see bid ass spreads wider but we also see volatility and we don’t just everyone

Sees this being considerably higher than the past and bid ass threads are almost always going to widen when volatility goes up what a market maker does is take the other side buy it the bid sell it the offer oh I got that right like three quarters of the time I get that right

I’ve been doing this 30 years sometimes I still get that wrong so so they buy the bid sell the offer so they make that money but they can’t get out of it immediately they take the risk it moves so when the world is more volatile they’re facing more risk they widen bit

Aspreds and that part seems fairly proportional to us um meaning liquidity has bid ask friends have widened meaning liquidity is lower but it’s not out of proportion with the markets we’ve been seeing if it does move much more without the mark s here we would really start to worry

But as of now it’s something to watch but not one of our major worries Cliff if we’re worried about liquidity why don’t we just invest in private Equity then we don’t have to worry about liquidity well now you’re just baiting me guy I I I I I I know what I do here

Yeah I know it’s going to work you know I have written about private Equity I do start everything I write about or everything I say about it with the absolute truth that I’m a Believer it it should play a big role in our economy there are companies that shouldn’t be

Public that need a diffuse set of owners that shouldn’t be a sole proprietorship also I think many of the private Equity investors are very good investors they’re very good at identifying value I think they get over demonized they it’s ugly sometimes but they do some of the necessary creative destruction that

Capitalism a schumpeter told us thrives on those are all the nice things I’m getting to your stuff guys the part that worries me is I do think 30 years ago we’ll call it David Swenson of Yale era private Equity was almost exclusively bought as a return enhancer these things

Are cheap and are going to make more money you got an illiquidity premium you got paid more in return for accepting the fact that you can’t get out and you’re not told the accurate prices I do think that it look that that what used to be a bug people said oh I don’t

Want to illiquidity I’d like to be told the prices but I want the return they have learned to see as a feature not being told is the prices the prices and not being allowed to get out has some positives right it can make you a better investor if you’re not allowed to

Do something crazy it comes at some cost one if that’s what’s Driven the popularity it is possible the liquidity premium is now backwards um you get paid for accepting a bug but if now something is viewed as a Feature Feature you pay for it in terms of

Getting a lower expected return at least than you did in the past second I don’t want to be I’m not calling for this I don’t want to be a doomsayer but in the disastrous event I mean the 10 20 years of down to Flat markets where we get you know we end up

In 1981 with the death of the equity Market kind of things it’s going to catch up to private Equity they are ultimately at least beta 1 or possibly larger levered equities so they are running a bit of a but but by by adding them to a portfolio that already contains public equity

And sometimes you see institutions with very low volatility assumptions for private Equity they are kind of running a risk that will probably work because these are rare events but a risk that there’s a true very long-term disaster and people find they had 70 not 50 equities are you saying there’s another

Shoe to drop in terms of valuations given we haven’t seen the same move in private Equity number one and number two I mean you call this volatility laundering very famously uh do you think that investors would think twice after we’re seeing some of the gating of some

Of these interval funds after you saw some of the big implosions like with FTX do you think that that will cause investors to think twice the I don’t think we’ve seen enough to to materially change investor Behavior so far if I’m right and I admit my my I’m a

Little cynical and I admit I have a weakness for inflammatory cued phrases like volatility laundering it’s worked so far right the reported return swings are much more muted and if we recover from here um then the drop never happened and and it was successful so I wouldn’t

Necessarily uh say it it we’re people have learned a lesson I think some have started to look and go you know we should really talk about this and that’s the beginning but unfortunately and I’m really not rooting for this a lot of aspects of my business would not enjoy

This either I think it would take a fair amount of more pain to really demonstrate to people that they’re taking a risk they didn’t realize your other question was is there another shoe to drop from valuation there I’m going to tell you a very firm I don’t know

Because my position’s not actually that they overstate prices it said they just don’t move them enough it’s a little less nefarious than than maybe it sounds um if you don’t move them enough it’s possible and I do not know that they didn’t move them up enough in a very

Long bull market and the stability you see now is eating into that bank account of underpricing so I wouldn’t necessarily say this Doom about to come they could it could be but they could be now fairly priced they could be have used up some of that that buffer I’m not

Brave enough to to make that call if I need to know because you had been talking about you know the whole Market not being in a bubble anymore but there are certainly pockets of them where are those Pockets you are known for kind of being vocal about how all the animal

Spirits have started to engulf the markets so where are you still concerned um I’m boring our old measures of valuation looking at cheap against expensive we do it and other people do it very different ways and frankly come up with some similar conclusions but we do it using multiple measures of value

Very often value gets pigeonholed is priced a book and then Everyone likes to pillory Price to Book and that’s um that’s that’s value Circa 1990. so many measures and the way we do it we don’t allow a very big sector or industry bet we we believe in comparing

Apples to oranges uh no wait Apples to Apples you don’t want to compare apples to oranges though might be an interesting comparison itself that spread Apples to Apples within Industries looking at a multitude of valuation measures is still at the 90th percentile versus history right I mean

Recently you had said on Twitter Bond villain goes after Messianic cult leader an intent to permanently undermine capitalism by reinflating a bubble that’s still barely defeated do you think this is a matter of kind of retail Traders puppy up the market is it a matter of a you know non-profitable

Companies propping up a market or is it leveraged still propping up this Market well if you’re going to quote me that’s just unfair um and that was attempted humor uh by the way um but yeah I I do think the overall stock market kind of the cap weighted s

P Wiltshire 5000 whatever you want to look at um maybe I’m a little more careful on the where you sword bubble but I still think it’s very expensive versus history and yeah those who who those managers and who jump out and say it’s much cheaper then insane so you got to buy

Now buy the dip I prefer to look at actual values as opposed to changes in value so in a little bit of a provocative puckish humor way that is kind of what I was trying to get at there Cliff final question from me you’re a smart guy you’ve been doing

This a long time the last 24 hours well we I agree with half of that but go on okay okay I’ll let everybody decide which half um well uh we saw a lot of the last 24 hours talking about AI do you think your computer could do what

You do what do you think about what is happening in technology and the way that it’s going to have an ability to change this Market to analyze this Market in a completely different way how do you see that how do you how do you invest in that how do you think about it

First of all as good as chat GPT is no computer is going to be able to make an ass of itself on Twitter quite as well as I do for a long long time as you just pointed out um there are places we are absolute users of of AI and machine learning

Natural language processing be able trying to extract information which often looks like traditional momentum trading just another aspect of it from say corporate statements where there are way too many of them and it’s way too subtle for for a human to to do it and many other examples at the edges we

Think there’s going to be a lot of return to people who are good at Ai and we hope to be one of them where AI is not going to change things in our opinion is stuff like what’s the average premium for cheap first expensive stocks and we believe it’s fairly positive some

Others disagree but AI That’s a small data set not a big data set you need AI when you have big unstructured data and a lot of the central problems in finance should I bet on this phenomenon cheat beats expensive I’m picky on one there are many others

And Should I stick with it when it’s not doing well I don’t think AI is going to tell us the truth on that I think a long-term history and whether it makes economic sense to to yourself is still going to be the way to go there cliff in just a

Minute here before we let you go you know it’s been a wild ride the last couple of years is there anything you would have done differently yeah in late 2019 we’ve always called timing stock markets or factors like value and investing sin and we’ve always added a

Little you know ride joke and we recommend you send a little and occasionally to all you viewers it’s also what I recommend in your personal lives but that’s that’s a different question um meaning when prices are truly Beyond egregious that bubble you think you can identify not even necessarily the

Hundredth percentile because the 100th percentile might have not been crazy in the past I jokingly sometimes called 120th percentile hopefully most of your listeners and reviewers know that there is no such thing but you know well past the past can’t justify it in late 2019 I

Said it’s time to sin a little in value to have a little more value um six months later roughly I don’t remember the actual date I had to write a piece saying no sin has ever been punished this violently and this quickly I will make an excuse a little thing called covet happened

And whatever value versus growth was trading at the world decided all you needed was Tesla and Peloton and it exploded way worse but it did show some of the sins of timing and it also showed and I admit this I had a great fear and we talked to our clients about this that

It could all come back very quickly normally things are slow as we were talking about before it takes multiple years but that’s normally next time it could just come back in a melt up and I was very scared we’d miss that and that was part of the timing I

Think I should have trusted the trend aspect of what we do I mean again it’s actually been a good ride all considering I think it’s gonna be a great ride but it would have been even better if I had fully trusted that




  1. Market warning for all portfolios: The risk is greater than the typical beta due to US gov't debt default risk. (alpha is overstated and beta understated)

  2. Cliff is right, private equity is holding loads of unrealized losses as many of their holdings aren't marked to market.

  3. Anecdotal Data Suggests Otherwise… not sure where the deflationary processes are coming from? Exercise equipments were bought when we were locked up. Let's concentrate on food, energy, service. Housing Market is showing strong sign o rebound from the bottom of last fall.

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