Situational Awareness's Collapse Signals Over-Leveraged AI Markets
Situational Awareness and the Impending Stock Market Volatility
The recent failure of hedge fund Situational Awareness (SA) highlights the reflexive, over-leveraged nature of AI-related stock markets. Citadel's block purchase of SA's assets is not necessarily bullish; it could serve various purposes like short covering. SA's meteoric rise and fall mirror the dynamics of thematic ETFs, where success drives asset prices up, but also amplifies declines. With markets over-concentrated and volatility rising, as seen in the KOSPI's wild swings, expect more turbulence ahead.
It was a beneficiary and victim of its own success, and there are likely other such risks lurking in the public equities AI market today.
- antasvara
Just to jump in: Citadel buying this portfolio says nothing about how Citadel feels about the stocks. It's the bread and butter of large HFT hedge funds; if you see someone that has to sell stock, you leverage the fact that you can buy all of it to get a discount versus the asset value. Reports are saying that Citadel was able to buy the portfolio for ~10% under the market value, all at once. That's a no-brainer because you both get a discount and avoid driving the price down by buying small pieces over the course of a week.;
If I were a betting man, I'd bet that Citadel was also selling to Situation Awareness while they were on the way up. At some point, SA had juiced their stock prices so much that no "rational" investors (those that have a view of the stock based on some amount of fundamentals) would be on the other side of the trade. It's retail investors, bandwagon investors, and Citadel-caliber funds. This situation (over-leveraged company blows up due to some volatility) happens all the time in commodities trading, which is where Citadel started.
- drdrek
This article is stating the obvious that is written in many different places (except the ETF angle) while sounding like its some kind of expert being ignored. I would presume AI is afoot.
Stopped writing the comment, went and clicked the logo, yup a personalized AI reporting service.
- bko
This fund returned 47% in its first 6m and over 400% prior to the downturn.
I don't understand how the investors didn't realize this was going to blow up. Returns like that are not asymmetrical and can only be produced with leverage, at least when you're trading paper.
When something is inevitable and there is a large enough position, this makes adversarial attacks likely. Every small drop causes an amplified amount of pain to the investor which causes them to liquidate positions furthering the decline. SA doesn't have the history or relationships yet to endure margin calls.
I don't see the edge these companies have when they're just going long a very particular position, namely anything related to AI. Long term value in finance is made in a couple of ways. For instance, relationships & being able to source deals (lots of PE firms), short term trading infrastructure and knowledge (Renaissance), capital and clout to make favorable deals (Buffet), etc. Even then the skills are fleeting as employees leave taking knowledge and companies raise money to compete.
Buying Nvidia on leverage is not a long term strategy. Especially when all your investments are common stock and obvious.
- trash_cat
"The forces that destroyed SA were also what generated its 4×+ return"...yes, that is what levrage means? And it goes both ways.
The interesting part what this article states: SA was essentialy a thematic ETF without any hedging to buffer downside, and got margin called.
- lz400
I think the collapse of SA is very simple (as long as I'm not wrong about it of course hehe).
SA weren't geniuses, they weren't sophisticated. They just did the same thing everyone else did, all in on semi-conductor, AI and memory positions. They got great returns because 1) everyone got great returns and 2) they were leveraged through their ears. In fact, not only they weren't geniuses, they were pretty bad at risk management, so bad that the first mild drawdown triggered margin calls on their over-leveraged bets and they couldn't cover them.
TLDR: SA didn't have alpha, they just looked good through over-leveraged beta and got caught