UBS has changed its hedging strategies to atune it with the stage of the market cycle
Clients in the Middle East have joined their overseas peers to resort to small-term hedging strategies even as market risks become idiosyncratic, triggering similar reaction from bonds and equities, resulting in a breakdown of diversification between asset classes, leading experts say.
The cost to hedge against the steepening of the yield curve (which means the longer dated securities yield more than shorter ones due to expectations of higher rates even as inflationary pressures rise) is quite low. This has attracted funds into the short-term trading or hedging strategies.
The 30-year US treasury yield saw its steepest rise since the start of the year, rising from 2.96 per cent in late August to 3.4 per cent now.
“The flows have been going in short-term opportunities. We have seen substantial flows from all centres in strategies that offer protection against yield curve steepening. Ordinarily when Fed raises rates, the yield curve flattens in a sell-off,” Vinay Pande, Global Head of Trading Strategies at UBS AG told Gulf News from New York.
“The flows have increased a lot relative to past years, as back then no one was concerned. There has been a large increase in awareness. The awareness is coming from across the board from Asia and EU elsewhere,” Pande said.
UBS has changed its hedging strategies to attune it with the stage of the market cycle.
“The big worry is at the very peak of the cycle, both bonds and stocks are prone to a sell-off, so what is the point in buying one and selling another. As the cycle matures, your approach has to evolve. We are approaching the late middle or early last stage of cycle, and this is where the risk rises to financial assets,” Pande said.
UBS is resorting to strategies such as buying a call on S&P 500 index conditional on the rate market remaining rangebound among others.
UBP has been also witnessing a gush of money into their hedging strategy. In the first six months of the year the assets under management, which was at $150 million (Dh551 million), have doubled.
“That number is increasing quickly. I think this pace will continue in the near future,” Philippe Henry, Global Head Cross-Asset Risk Premia & Overlay Solutions at UBP — Union Bancaire Privée told Gulf News. The bank is making use of two types of hedging strategy which are tactical hedge and strategic hedge.
“When we design this hedging tools, we have 1-2 elements in mind. One is to minimise the cost of hedging, and second you want to maximise the reliability of the hedging,” Henry said.
In all, the basic idea is to protect your portfolio. “If you have an allocation to liquid alternatives like long-short equities, you are still getting access to some of that growth, but if you see a downturn you have an element of downside protection,” Chris Dawe, product manager at Schroders said.