Morgan Stanley IM: All About Alpha - Capturing Returns in Today's Market Environment

As we approach the final months of 2024, it’s easy to have a vague sense of déjà vu about financial markets. In some ways, 2024 looks eerily similar to 2023: equity indexes posted a strong first half of the year, driven by a handful of technology stocks, markets continue to reprice central bank policy expectations, which has driven ongoing volatility, while geopolitical tensions and other macroeconomic concerns remain.

Today’s environment stands apart from prior growth-led markets in a crucial way: it has been—and remains—a ripe environment for hedge fund alpha generation.

From Macro to Micro

AI and tech euphoria has seemingly taken hold of markets once again. Even after the volatility in late July and early August, which pressured many year-to-date high flying tech stocks, the market cap weighted S&P 500 index has outperformed the equal weighted S&P 500 by large margins year to date, through August 5. With more than 40% of the S&P 500 market cap concentrated in TMT sectors, it’s easy for these headlines, and headline-level returns, to mask the pronounced dispersion in other areas of the market.

In the macro-driven environment that persisted for much of 2022 and 2023, assets moved largely in response to inflation, interest rates and other macroeconomic factors. 2024 has increasingly seen an environment driven more by micro fundamentals. In fact, an internally maintained S&P 500 risk-on/risk-off model, which quantifies the degree of shared risk and market-wide co-movements, has declined this year, suggesting that macroeconomic factors are weighing less on equity markets. This has coincided with an uptick in stock-specific risk, suggesting that fundamentals are increasingly influencing stock prices. We believe that these dynamics are a direct result of the higher interest rate environment, which has resulted in increased opportunities for alpha production conducive to hedge fund strategies seeking to deliver skill-based returns to investors.

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