"The Strategy": a theory of market manipulation by big funds (Knuteson, 2018)

That’s a red herring. Put a name and bio on the author.

d0rian said:
I just found this article ("How to Increase Global Wealth Inequality for Fun and Profit"), which seems like it was much-discussed when it was published a year ago. Author points to the stark difference between intraday vs non-market-hour returns for all the major indices (noting that, astonishingly, nearly ALL(!) market gains, in the aggregate, are from overnight movement.) His theory seems to be that the only explanation for that anomaly is a handful of huge funds ($1B+) buying huge positions in the morning, and selling them in the afternoon:

"The Strategy is very simple: construct a large, suitably leveraged, market-neutral equity portfolio and then systematically expand it in the morning and contract it in the afternoon, day after day. The Strategy works because your trading will, on average, move prices in a direction that nets you mark-to-market gains."​

There's something fundamental I need explained to me, though: if the well-documented effect of overnight returns being massively larger than intraday...I'm confused about what the author's saying about funds profiting massively by...buying at open and selling at close (and repeating that each day). Wouldn't that...seem to be precisely the opposite of what the day-vs-overnight return patterns suggest is profitable(??) I'm missing something fundamental, I'm just not sure what...just what is the manipulative behavior that Knuteson is suggesting is driving the day/overnight split?
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comagnum said:
The author is misinformed. I think he was trying to imply in his incoherent rant is some hedge funds are using the overnight market to pump up positions & sell into the open.
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I don't think that's what he's theorizing. He specifically enumerates expanding one's portfolio in the a.m. and contracting in the p.m.
 
Both of his propositions would have had inferior returns as compared to “buy and hold”. D.E. Shaw, where he was a quantitative analyst, is a HF strategy firm AFAIK.

d0rian said:
I don't think that's what he's theorizing. He specifically enumerates expanding one's portfolio in the a.m. and contracting in the p.m.
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The article is painful trying to decipher what he is trying to say. True, he implies this is on the day session. Hedge funds that day trade around core positions is perfectly legal & surely isn't market manipulation.

He is blaming hedge funds for global wealth inequality, he should take this up with the Fed/ central banks.
 
Here's a slightly alternate version of the paper posted.
https://arxiv.org/pdf/1912.01708.pdf

I'll take a stab.

My initial takeaway, is that he is saying that markets can be favorably manipulated by large enough short term players that implicitly collude, and he explains some possible methods that they 'could' apply to achieve this. He argues that as long as the manipulation is accomplished in such a way, that the overall drift is beneficial to overall market players (who most likely desire positive drift), then very few watchdogs will be likely motivated to investigate the manipulation.

He starts by explaining one such mechanism that would benefit large players. Since the markets have a greater potential impact in the morning, a large player (or players colluding) could take a set of large positions in the morning and those positions would move favorably (on average) by some distance, call it x. If they take the exact opposite positions at the end of the day and close them out, the impact (movement) due to their closing out of those positions would be smaller, so that the net return would be positive because of the asymmetry of impacts at different times.
Over time the cumulative net impact of these actions benefit those firms that have the buying power to move markets using this type of scheme.

He goes on to argue that a more complicated favorable manipulation scheme could be applied at different times in the day, that might explain the overnight effects patterns across global markets.

I know people get very passionate about manipulation topics, so I won't go any further. But that's a casual interpretation of his paper(s).
 
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dtrader98 said:
Here's a slightly alternate version of the paper posted.
https://arxiv.org/pdf/1912.01708.pdf

I'll take a stab.

My initial takeaway, is that he is saying that markets can be favorably manipulated by large enough short term players that implicitly collude, and he explains some possible methods that they 'could' apply to achieve this. He argues that as long as the manipulation is accomplished in such a way, that the overall drift is beneficial to overall market players (who most likely desire positive drift), then very few watchdogs will be likely motivated to investigate the manipulation.

He starts by explaining one such mechanism that would benefit large players. Since the markets have a greater potential impact in the morning, a large player (or players colluding) could take a set of large positions in the morning and those positions would move favorably (on average) by some distance, call it x. If they take the exact opposite positions at the end of the day and close them out, the impact (movement) due to their closing out of those positions would be smaller, so that the net return would be positive because of the asymmetry of impacts at different times.
Over time the cumulative net impact of these actions benefit those firms that have the buying power to move markets using this type of scheme.

He goes on to argue that a more complicated favorable manipulation scheme could be applied at different times in the day, that might explain the overnight effects patterns across global markets.

I know people get very passionate about manipulation topics, so I won't go any further. But that's a casual interpretation of his paper(s).
More...

So what if this is true? What natural market mechanism could correct this?
 
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