People debate whether prospect theory is real, that losses hurt more than gains. It's very real to me.
In good years, I'm like, well, there's a lot of randomness to this. I'm just, you know, I think we'll make money long term, but that was probably luck. In bad years, I'm like...
I don't invest based on this. I'm pretty good about avoiding that, but I have every bad emotion that we attribute to investors. Losses hurt. They're not supposed to. You're supposed to just do the rational strategy and keep repeating, but we live in the real world.
Welcome back to another Infinite Loops. I'm Jim O'anosy and I'm thrilled to be joined today by my friend Cliff Asness. Cliff is the co-founder and chief investment officer of AQR Capital Management, one of the world's largest and most influential quantitative investment firms. Please enjoy this episode with my friend Cliff Asness.
Cliff Asness. Man, it is so great to see you. You had a great 2025. It was very nice here.
It must have felt really good, right?
It feels about a third as good as the equivalent bad year feels bad.
Oh, which is very good. But, you know, people debate whether prospect theory is real, that losses hurt more than gains. It's very real to me.
In good years, I'm like, well, there's a lot of randomness to this. I'm just, you know, I think we'll make money long term, but that was probably luck. In bad years, I'm like...
I don't invest based on this. I'm pretty good about avoiding that. But I have every bad emotion that we attribute to investors. Losses hurt. They're not supposed to. You're supposed to just do the rational strategy and keep repeating. But we live in the real world.
Yeah. And you know, one of the things I love about you though is you get more aggressive when you're having a bad year, right? I did something when I was at OSAM, we did the same thing. I said to my people, I don't want you on the phone when we're a thousand basis points ahead of our benchmark. I want everyone including me on the phones when we are sucking wind.
I remember there we've had basically, you know, two and a half, three bad periods. There was the tech bubble. I mean you and I are ancient now. So a lot of people listening, you know, that's like, I think I read about that.
I don't know about that, daddy.
Some of the things we do, not everything, during the GFC, individual stocks were fine during the GFC. It was... but there was some parts that were really annoying. And then two and a half years from kind of mid-18 through the end of 20. And we do get more aggressive in the sense of being out there, you know, explaining. We'll do this in good times too if people want to hear it, they just don't need to hear it as much though. I do vary a little bit. If we lose, and by the way we win a lot more than we lose. Somehow I'm only focused on losing here. But if we lose for reasons that I think are, for instance, valuation-based, where I think things are getting a little stupid, then I get more aggressive.
Long term, we just did this, we wrote a blog on this about two years ago. The correlation of our strategies to, you know, what people think of as basic value long-short, you know, Fama-French HML or somewhat more sophisticated versions than that, it's about 0.2. It's not that large. It's been negative for rolling three-year periods. But there have been, particularly the tech bubble and the period culminating at the end of kind of COVID, were value disasters. And when they're value disasters, if the fundamentals are not why we lost. If it's just prices doing this, then I get more aggressive just because I believe in it. If we lost because of momentum or quality or more proprietary things, we do a lot of things I will not talk about, I'm sure you do too. I will, and the firm will explain what happened, of course. But I wouldn't get more aggressive, like take more risk or even get more pugnacious in the world about it. Because, you know, for instance, if you lost because of momentum, then you just change your mind and apologize. And we do believe if you do that over and over again you win, and we think we've demonstrated that. But it's when you lose because the world goes mad. If you're right about that, that's the time we definitely get more publicly aggressive. You know, writing a million things. Look at this. This is crazy. And last time you and I spoke, we talked a lot about the value spread. It's still high. It's nowhere near as high as it was.
Right. Right. Which is good news, I guess.
Yeah. I think the point about the dot-com is really illustrates that it's kind of good that we've been around as long as we've been around. Because I remember I wrote a piece, I don't forecast, right? I listen to the numbers and if they are like crazy then I'll write something. And so I wrote a piece called 'The Internet Contrarian' in April of 1999 in which I said...
Yeah, 95% of these companies are either going to be carried out feet first or be 90% lower, even the winners. And I used Amazon as an example.
Yeah, I did. Total luck. And it will be 90% lower. Cliff, the hate email, because this is the beginning of email, right? The hate email I got because what I was 39 years old and they're like, why are you such an old fogy? You don't understand the new world. Always called old if you prefer to pay a lower price for something.
Exactly. But, you know, the mania that typified that time was like, it was all-encompassing. It was like a mind virus.
Yeah. I still think literally on the value spreads that we measure, the end of 2020 got a little bit crazier, which I never saw coming. You know, and I admit this, a lot of my thinking has evolved based on saying we saw the craziest thing in 50, 60 years of good data in '99, 2000. If someone had asked me then, are you going to see something crazier in your career, I definitely, you know, I don't know if I'd say definitely no, that's a stupid thing in our business to ever say, but I'd say it's highly unlikely. This was the most extreme thing in 50, 60 years. People like Jim O'anosy and I will still be around. The notion that if something happened a hundred years ago you can imagine the world forgets. But, you know, I was like 33 at the time of the tech bubble. I'm like, in my career, so what's that, 20 years later, it's going to happen again. And it happened again. Now the value spreads got wider. I still think the dot-com bubble was a little more extreme in a different way because the correlation of value and quality were different. In the dot-com bubble, value spreads were here and they were all of the, if you'll pardon the technical language, crap companies.
In 2020 it wasn't terrible. It wasn't like you had to short the hell out of quality, but it wasn't on both dimensions. It was really a valuation, at least how we see it.
We saw it exactly the same way during the dot-com. Because we would, when we would sort right on our value composite, right, and there'd be names like Citicorp there, and without the quality filter you'd go, you would have been backing up the truck for Citicorp. But when you put the quality factor in, you're like, holy [__], I'm not touching that. So yeah, it was a really interesting time. But then the 2020, like I actually thought of you when I was watching those guys.
Yeah, the GameStop guy. And I was...
I've heard his real name like 20 times. I watched the movie. I just don't remember it. It's more accurate than saying I don't know it.
Yeah. But the reason I was thinking of you was like, even I maybe get agitated a little less than you do.
But like I was agitated. I was watching it and like because I was thinking this is going to [__] up a generation of young investors. They're going to think that this is the way you make money.
Well, that prediction I would say is on its way to coming true. Bear markets are when stocks return to their rightful owners. And those guys were not rightful owners. I avoided watching the movie for a while because I knew it would make him out to be a little bit of a hero. Eventually, I had a, in fact I wrote an op-ed on this. It was in the Wall Street Journal where I explicitly said I'm going to complain about this movie that I have not watched. I try to avoid using the meme stocks as like my complete example because it's kind of unfair arguing to take the most extreme example.
But as long as you remember that that's not a full argument. The most extreme is edifying. It can tell, you know, you would have to argue that nothing else is going on in isolation. And I do think the meme stock phenomenon, I'm again, I'm going to sound like a very old man. But the, you know, gamified 24/7 electronic trading, I am fairly convinced there are a lot of, I'll use the term investors but there should be air quotes around this, who can't distinguish FanDuel from Robinhood. It's just an app and they have their little systems. I read, what did I read this morning? I was reading about some person who gives their financial advice out for money and had a system that worked and this thing is, and they blew up. They're selling it.
They lost this one actually around Christmas. Lost a whole bunch of money. And they're like explaining, 'Well, it was a martingale system.' And I'm like, I'm reading this and I'm having this internal dialogue. I mean, you mean the thing that's been around for like 400 years where you just keep doubling the bet? And that's exactly what it was. And first of all, the guy sounded like he rediscovered it. Like, oh, you never lose. And I'm like, yeah, with an infinite bankroll and an infinite will. Do you got that? And it's just, you know, the old cliche pennies in front of a steamroller. Advocating the martingale strategy to the individual out there who has no clue. Just saying you keep doubling and eventually you win and you make back your initial bet. They leave out the risk of ruin. And so pennies in front of a steamroller is literally being advocated. And that was just this morning. I don't know how widespread that one is, but that was my thing. I got very unpopular with folks who were using massive amounts of leverage on illiquid assets.
That is the death combination.
It really is. And I was at a club in Greenwich and talking to somebody who had been at Long-Term during their heyday. So this is way back. And he got really mad at me when I pointed out that that amount of leverage, it isn't if you're going to die, it's when you're going to die. And it flaxes me that we don't learn that lesson.
Yeah. I mean, leverage is always such a difficult topic. And I really doubt that we're in disagreement on this, but it can be a wonderful tool if you have a very diversified portfolio. If the bets truly aren't the same, it can help you balance out your bets. You know, I always say the example we've been giving for like 30 years is if you have equal skill at bonds, stocks, and commodities, for instance, and you take the same dollar bets in each, you're a commodity trader who dabbles in equities and bonds are irrelevant, right? But if you delever one and you got to do it both directions and lever the lower-risk one, you create some balance. But we've always imposed limits on it. Like we've never done the so-called basis trade, right? Buy off-the-run treasury, sell on-the-run treasuries. It's the best example because you literally can cash flow match the thing and it's the same government cash flows. And as nervous you might be about the budget deficit, the notion that they will default on only selected bonds, it's a little weird.
So it's about as close as you can get to a true arbitrage in that sense.
And it still rises up to kill people all the time and exactly at the times you don't want to be killed, right? So, you know, it's not a martingale, it's a different system, but it's very similar characteristic that it works most of the time. But when it ain't working, you know, here's another example. We have the arrogance, and I'm sure you share this arrogance, to think that in the last 30 years, since the early 90s, our measures of so-called factors have gotten better than they were back then. And one thing that comes up is there's still a fair amount of indices, fair amount of people who trade kind of the old school ones. So, why not go long ours and short the old school ones? You can do that to some extent but not much because you got to lever the bejesus out of that trade. Because for instance, if you're doing a momentum or a value strategy, you've taken out that part and you're levering up the idiosyncratic part which may in fact be fairly high risk-adjusted return if your measures are better.
And beautifully uncorrelated with things in the world because you have value on both sides, momentum on both sides.
You just have to lever an uncomfortable amount. And so that's on my to-do list to one day figure out how to do that without dying. But I haven't gone down that road yet.
You know, the other real shock to quants was the global financial crisis, right? We had a guy from what had been Lehman, but Barclays took it over. He was a consultant to quants, right? And I'm sure you've met with this guy. I don't remember his name, but he came out right after and basically said to us that 68%, and probably that's probably [__] wrong, but 68% of quants overrode their model. In other words, they freaked out and their model was overridden.
You can always debate what is over, you know, every time you do research and you change your model. I agree. This is kind of philosophical, but at no point did we say, 'All right, take this all off. We don't know what's going on.'
And that was my follow-up question because I said, 'Well, you know, we're evolving these models all the time, and when we find something that's better, we take out the old one that no longer works as well, and we put the new one in.' And I said, 'But so what do you mean specifically by overrode the model?' And he basically said what you just said. They were like, 'We don't know what's going on.'
Now, if you discovered that you truly took too much risk. I will say in August of '07, we cut some positions in our most volatile places because we thought we had to.
Yeah. There's a difference between we actually think this is crazy enough that we're hitting risk limits and we don't like the models. The vast majority of what we did, we did not do that in, because we weren't particularly worried about survival. It was just a really painful week.
Yeah. And the GFC in total was actually not that bad for quant equity selection. I agree. August of '07 and those events get conflated a little bit. I think of August '07 as the kind of the precursor. The first maybe bad month for credit was July of '07 and I think a lot of people had added quant and had no idea what it was.
Right. So it's like the first thing you cut. And you and I are cursed for doing very liquid things which is wonderful as an actual investment property but it does mean you're the world's ATM when they feel they need it. So August of '07 was a harrowing week mostly recovered in the following two weeks. Actual calendar year 2008 I think we were slightly up, was not a banner year. Value went through a disastrous period in the middle but bounced back a lot. But a lot of the memories of quant as we see it, and not every quant is exactly the same but we do overlap, was really comes from August of '07. There was no global financial crisis at that point. That was a little adumbration of what was going to come.
One of my theories is that quant also can be the canary in the coal mine. Because in my research and I'm sure you've seen it in yours. I give you an example. This is one going up, but it works going down as well. And I can't remember the year it was. I think it might have been 2004 or 2005. And all of a sudden, a bunch of tiny steel-making companies start showing up in our growth portfolio. And I'm like, what the [__] is this? This doesn't make any sense to me. Right? And so we bought them, right? Because the model said to buy them. Well, about seven months later, there was a Fortune or a Forbes magazine about how China was building one Boston a month. And then I'm like, oh, they're buying all the steel.
Right. Do you see that or you have a much broader portfolio than we were, much more concentrated than you. If we're right about what we do and again I think the evidence is there but I'll always say if you are picking up mispricings, maybe I briefly believe 35, you're a PhD student at the University of Chicago you have to be an efficient markets risk guy but I wrote a dissertation on the early versions of the momentum strategy and immediately we knew it's highly unlikely this is working because of rational risk-based...
Therefore if you're picking up mispricings, they're going to be a ton of stuff like that. If you're concentrated, you have to worry about it more, right? What we're, we're adding these steel companies. You don't want to change your model, but you got to look at it hard. Totally. Just to understand what it's doing.
For us, we try to be industry neutral mostly, not entirely. And we'll have a thousand longs against a thousand shorts around the world, but in more micro small ways. We're a really boring portfolio to actually talk about. I mean, when people ask me, 'Do you own this stock?' Which happens all the time because they're like this, 'You're a professional investor. We're at some party.' I'm like, 'I don't know.' And I love to say that because it just makes people's face go, you don't know? Exactly. And they give you something like, 'Are you kidding? Are you grossly incompetent and negligent?' I'm like, 'No.' Oh, the bad news is occasionally when I do know about an individual name because it's, we were not short GameStop, but it's more like you know you guys are short GameStop and you've lost a lot on that.
That would be to your point even that doesn't really happen, little percent that you might own or short or be short.
You know my story about talking about shorting a meme stock on TV.
No. No. Let's see. Let's hear it.
This is one of these things where I pretend I regret but I'm actually a little proud of.
Okay. That's actually kind of a go-to move of mine. But so this is maybe 2023. I could be off by, you know, the years in my stories I get increasingly confused.
Same with me. Particularly with COVID, I have no idea if it happened before COVID, it's just a different time. But we had a really rough two and a half years through like October of 2020. And then things were fabulous and they've stayed fabulous for five plus years. And you know, we know five years of fabulous plus two and a half years of pain is actually very good but it doesn't make the pain any more pleasant. We shrunk a lot, that's this business, you shrink when things are bad. So when things were provably good, again, my team that does this stuff wanted me to go on TV and talk about it. And they usually, I go on TV occasionally, but it's not a big thing for us.
So and so I was a little surprised and they're like, 'No, it's time to tell people, you know, as gently as we can. It's, we were right.' So, we're planning the segment. It's on CNBC. And you have a pre-, you've done this a million times. You have a pre-call, not to script the whole thing, but just to make sure you have something to talk about. They want me to give them some names long and short. They know we do both directions and I'm doing the standard quant explanation and that's kind of silly. I usually don't know them. We're betting on an idea that's working that cheap profitable, you know, companies that have been heading up lately that are buying back their own shares, blah blah blah.
We were buying the same stuff.
Yeah. But I don't know the names. And they're like, 'Well, everyone in this segment gives us names, so it was kind of a dealbreaker.' And I'm like, 'All right, I'll give you names.' So, I asked my team to put together, I said, 'Do the US.' Because, you know, it's a US show. I asked them for two criteria, which may have been the null set, but one, some stocks somebody's heard of. It's not that fun to say, you know, blah blah blah, Acme, whatever, that no one's not going to resonate with anyone. Acme Pharmaceutical.
Some micro cap sitting on top of a rocket with a fuse. Second, let's look for ones that are bad on most of the things that we publicly talk about because I think it's easier to explain it's bad on the following six things than tradeoffs. And there are some things you'd be short or long that are fabulously good or bad on four things and are quite the opposite on two.
But that's a more subtle argument. So, I'm like, try to give me ones...
So, buy TV in general. I mean, one of the shorts they gave me was AMC, the movie company, not moving company.
I do remember this. I didn't see the segment, but keep going.
And I, no, I brought it on myself because I was obnoxious. I was trying to be funny, which is how you get in trouble.
It's not mutually exclusive with obnoxious though. So the deal I made with them was they got to give me 45 seconds to explain we're quants, that we could be totally right about this and still have a bad year. We could be totally wrong and still have a good year. These are six names. I don't even think I got to all three on both sides. AMC was a big meme stock. I did know that going in, but I didn't know, I had no experience with the depth and breadth of the fever swamp. The whole GameStop, Melvin Capital thing.
I kind of watched it. It was not relevant to us. You know, we're super diversified. I don't particularly like investing death cults that go around just trying to hurt people because they don't like them, but it wasn't, you know, to be blunt, it wasn't hurting my portfolio. So I was like, 'This is some crazy stuff out there.' So I knew a little bit. So I go through, that was short AMC, and I went through like, it was a beautiful example because it was just, it was super expensive based on the fundamentals that were actually measurable. It's not like it had earnings or something, but it was super unprofitable. They were issuing, not buying back shares. Every form of price and fundamental momentum was high. It was not, you know, was super high beta. There was not a thing we liked about the stock. So, it was easy to explain. But then at the end, I said, 'But again, we're quants, so we're short a whopping 12 basis points of the portfolio in this thing I just described that we hate.' And then I added the line that I should not have added. So, the crazies can't hurt us even if they're right or something. I'm paraphrasing.
And I think I'm throwing him a lifeline trying to explain that it could be bad on everything we know and there could be management that does something revolutionary fixes it all. It was actually quite the opposite in real life of course.
And you know it's 12 basis points, as crazy as that stock is. It never doubled in a day. If we lose 12 basis points in a day it doesn't show up on my radar screen. So I'm saying this thinking I'm being funny, but it turns out one thing I misjudged, which was really you could have gotten right ex-ante, is people don't like being called crazy. I know, I know it seems rather obvious after the fact. So I got a ton of hate email. We had weird phone calls where people were pissed. And also I've gotten better at this. Not perfect, but better.
I have a bit of a problem in that I will at least initially respond to the crazy people on social media.
And you and I have talked about that.
I know you've tried to, you're one of my many good friends who've tried to have an intervention with me on it and I have gotten much better.
You really have. I totally agree.
I try to be nice the first time.
I sit there and I go, 'Look, you're yelling at me. I actually think I'm one of the people trying to help you if you'll just listen for a second. I don't know this stock is terrible.' I tried to, you know, I would re-explain that it's just statistics. It could work out for you, but I wouldn't. There'd be these sad things. People would be like, 'You're dissing this stock that I have my kids' whole college fund in.'
