 |
|
| View previous topic :: View next topic |
| Author |
The End of Hedge Funds? |
rffrydr
Moderator
Joined: 30 Oct 2005
Posts: 16445
Location: Sunny California
|
 Posted: Sun Mar 23, 2008 4:30 am Post subject: The End of Hedge Funds? |
 |
|
Martin Wolf runs some numbers looking for what's real. --Maybe better not to look too deeply into the well....
| Quote: | Hardly a week goes by without the implosion of a hedge fund. Last week it was Carlyle Capital, with an astonishing $31 of debt for each dollar of equity. But we should not be surprised. These collapses are inherent in the hedge-fund model. It is even conceivable that this model will join securitised subprime mortgages on the scrap heap.
Getting away with producing adulterated milk is hard; getting away with an investment strategy that adds no value is not. That was the point made by John Kay, in a superb column last week (this page, March 11). With the “right” fee structure mediocre investment managers may become rich as they ensure that their investors cease to remain so.
Two distinguished academics, Dean Foster at the Wharton School of the University of Pennsylvania and Peyton Young of Oxford university and the Brookings Institution, explain the point beautifully*. They start by asking us to consider a rare event – that the stock market will fall by 20 per cent over the next 12 months, for example. They assume, too, that the options market prices this risk correctly, say at one in 10. An option costs $0.1 and pays out $1.
Now imagine that we set up a hedge fund with $100m from investors on the normal terms of 2 per cent management fees and 20 per cent of the return above a benchmark. We put our $100m in Treasury bills yielding 4 per cent. We also sell 100m covered options on the event, which nets us $10m. We put this $10m, too, in Treasury bills, which allows us to sell another 10m options. This nets another $1m. Then we go on holiday.
There is a 90 per cent chance that this bet will pay off in the first year. The fund then grosses $11m on the sale of the options, plus 4 per cent interest on the $110m in Treasury bills, for a handsome 15.4 per cent return. Our investors are delighted. Assume our benchmark was 4 per cent. We then earn $2m in management fees, plus 20 per cent of $11.4m, which amounts to over $4m gross. Whatever subsequently happens, we need never give this money back.
The chances are nearly 60 per cent that the bad event will not occur over five years. Since the fund is compounding at a rate of 11.4 per cent a year after fees, we will make well over $20m even if no new money is attracted into this apparently stellar enterprise. In the long run, however, the bad event is highly likely to occur. Since we have made huge profits, our investors have paid us handsomely for the near certainty of losing them money.
The immediate response may be that so naked a scam is inconceivable. Well, imagine a fund that leverages investors’ money by borrowing massively in short-term money markets in order to purchase higher-yielding paper. Assume, again, that the premium gives a correct estimate of the risk. With sufficient leverage, this fund, too, is likely to make profits for years. But it is also very likely to be wiped out, at some point. Does this strategy sound familiar? It certainly should by now.
We can identify two huge problems to be solved. First, many investment strategies have the characteristics of a “Taleb distribution”, after Nicholas Taleb, author of Fooled by Randomness. At its simplest, a Taleb distribution has a high probability of a modest gain and a low probability of huge losses in any period.
Second, the systems of reward fail to align the interests of managers with those of investors. As a result, the former have an incentive to exploit such distributions for their own benefit.
Professors Foster and Young argue that it is extremely hard to resolve these difficulties. It is particularly difficult to know whether a manager is skilful rather than lucky. In their telling example, the chances are more than 10 per cent that the fund will run for 20 years without being exposed. In other words, even after 20 years the outside investor cannot be confident that the results were not being generated by luck or a scam.
It is also tricky to align the interests of managers with those of investors. Obvious possibilities include rewarding managers on the basis of final returns, forcing them to hold a sizeable equity stake or levying penalties for underperformance.
None of these solutions solves the problem of distinguishing luck from skill. The first also encourages managers to take sizeable risks when they are close to the return at which payouts begin. Managers can evade the effects of the second alternative by taking positions in derivatives, which may be hard to police. Finally, even under the apparently attractive final alternative it appears that any clawback contract harsh enough to keep unskilled managers away will also discourage skilled ones.
It is obviously best not to pay the manager, as a manager, at all, but rather to invest alongside him, as at Berkshire Hathaway, Warren Buffett’s investment company. But we still have the challenge of knowing whether the manager is any good. We know this today of Mr Buffett. Fifty years ago, that would have been very hard to know.
What we have then is a huge “lemons” problem: in this business it is really hard to distinguish talented managers from untalented ones. For this reason, the business is bound to attract the unscrupulous and unskilled, just as such people are attracted to dealing in used cars (which was the original example of a market in lemons). The lemons theorem states that such markets are likely to disappear. The same may happen to today’s hedge-fund industry.
Now consider the financial sector as a whole: it is, again, hard either to distinguish skill from luck or to align the interests of management, staff, shareholders and the public. It is in the interests of insiders to game the system by exploiting the returns from higher probability events. This means that businesses will suddenly blow up when the low probability disaster occurs, as happened spectacularly at Northern Rock and Bear Stearns.
Moreover, if these unfavourable events – stock market crashes, mortgage failures, liquidity freezes – come in stampeding herds (because so many managers copy one another), they will say: “Nobody could have expected this, but, now that it has happened to all of us the government must come to the rescue.”
The more one believes this is how an unregulated financial system operates, the more worried one has to become. Rescue from this crisis may be on the way, but what about next time and the time after next?
*Hedge Fund Wizards, and The Hedge Fund Game, January 2008 |
_________________
Today is the Tomorrow you worried about Yesterday! |
|
| Back to top |
|
 |
| Author |
The End of Hedge Funds? Replies |
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
|
| Back to top |
|
|
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
|
| Back to top |
|
|
rffrydr
Moderator
Joined: 30 Oct 2005
Posts: 16445
Location: Sunny California
|
|
| Back to top |
|
|
nodoodahs
Moderator
Joined: 06 May 2005
Posts: 2408
|
| Posted: Fri Oct 08, 2010 2:41 pm Post subject: |
|
|
Maybe also in the funds under $1 billion:
http://www.finalternatives.com/node/14115
| Quote: | "It's not easy for smaller firms," he told Bloomberg News. "All the money is going to the large firms."
And, he might have added, leaving his own. Amoeba's Asia Fund has returned 67% since its inception, and is up 5.1% this year. Still, withdrawals have cut its assets under management to just US$135 million from a peak of US$750 million. |
Compounding at 15 means 2+20 gives you 5 on AUM of $135 mil or almost $7 mil. Which beats compounding your own account at 15, provided your account is less than $45 mil or so.
_________________
I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose. |
|
| Back to top |
|
|
rffrydr
Moderator
Joined: 30 Oct 2005
Posts: 16445
Location: Sunny California
|
| Posted: Tue Sep 28, 2010 10:33 pm Post subject: |
|
|
| Quote: | LONDON, Sept 28 (Reuters) – Man Group Plc suffered
an eighth straight quarter of net client withdrawals,
confounding hopes that a recovery in its biggest fund would help
it attract investors in line with a broader hedge fund industry
rebound.
The world’s biggest listed hedge fund manager, which is
buying smaller rival GLG in a bid to boost assets and
diversify away from computer-driven funds, said on Tuesday
clients pulled out a net $600 million in the three months to the
end of September.
This was below the rate of withdrawals in the three months
to June, but above the level of a year ago. Some clients are
likely to have been put off by the 16 percent loss from Man’s
flagship $21.9 billion AHL fund last year.
The outflows came from private clients, while institutions
put in a net $100 million overall, the first net inflow from
such clients in two years. Chief Executive Peter Clarke said on
a call to analysts he expects institutional net inflows to
continue. |
_________________
Today is the Tomorrow you worried about Yesterday! |
|
| Back to top |
|
|
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
|
| Back to top |
|
|
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
|
| Back to top |
|
|
nodoodahs
Moderator
Joined: 06 May 2005
Posts: 2408
|
| Posted: Mon Sep 13, 2010 5:48 am Post subject: |
|
|
| HenryTo wrote: | | Can a 2/20 fee structure survive in a $1.53 trillion industry? Probably not. Look for a radical change in fee structure at the margins or another significant shrinkage in the industry over the next few years ... |
Yes, and multifactor decomposition of returns and "vanilla alpha" but still, TF and carry in a double-sort gives you 0.9 Sharpe over the last 15 years on currencies ... and after 2/20 fees it still looks good to an institution or UHNW individual.
Regarding 2/20, it's about what's delivered post-fee to the investor. With the widespread ability of simpler structures to provide similar post-fee returns while taking much smaller margins, well, 2/20 seems high. I'm with you 100% on their returns not being worth the fees, but look at me, I drive a Kia and I'm considering being able to retire on my investments in 5-10 years. Most of my age/income/networth cohort don't drive bargain vehicles ...
Given the research I've seen, there's no justification for 2/20 other than that "some folks will pay it." Maybe that's enough justification. After all, we can see in the automobile market that people are willing to pay up for the perception of quality inherent in "brand name" despite a general lack of real differentiation in quality or performance. Why not in investing, too?
There's a market in overpaying. Look at the studies showing $10 wine in $100 bottles getting rave reviews. It's about brand. Analysts being smart about recognizing vanilla strategies doesn't change the fact that they work, or that after-2/20 returns on them look attractive to institutions targeting 7.75.
Long story short, I don't see the big shakeout coming. Look for the primary trend of large name-brand firms growing to continue.
_________________
I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose. |
|
| Back to top |
|
|
nodoodahs
Moderator
Joined: 06 May 2005
Posts: 2408
|
| Posted: Sun Sep 12, 2010 5:14 am Post subject: |
|
|
Taking 4%+ of AUM over the years ain't exactly disappointing. One could get very rich on a 4% skim and if the fund is any good and the manager has their own money in it, too, well, I wouldn't be disappointed by that kind of take. Isn't it enough to be in the top 0.1% percent of wealth, without pursuing the top 0.001%?
Yes, the behavior gap between "investment return" and "investor return" exists for so-called "sophisticated investors" as well as retail - and it exists for many institutions, too.
"The average [HF] investor received below equity returns" discounts the fact that the average equity investor ALSO received below equity returns on their equity investment.
Perhaps they should be "locked up for their own good," so to speak.
_________________
I haven’t seen a beatin’ like that since somebody stuck a banana in my pants and turned a monkey loose. |
|
| Back to top |
|
|
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
| Posted: Sun Sep 12, 2010 12:41 am Post subject: |
|
|
New paper demonstrating the earnings power of the all-time top 10 and top 100 hedge fund managers, versus the "bottom-of-the-barrel"--or in other words, the other 7,000 hedge fund managers on the list (not including the ones that closed down). Again, I expect more shake-out in the hedge fund industry before this is all over.
http://www.ft.com/cms/s/0/981a7710-bcff-11df-954b-00144feab49a.html?ftcamp=rss
| Quote: | But the top 10 most successful managers have between them generated almost $154bn since they were founded, with even the number 10 – Eddie Lampert’s ESL – making more than British Airways earned over the same period.
Rick Sopher at Edmond de Rothschild Group, chairman of Leveraged Capital Holdings, which has been investing in hedge funds since 1969, said the findings of his research demonstrated the trading skills of the best managers. The top 100 made more than three-quarters of all returns for investors since they were founded, in an industry of about 7,000 managers.
“There are these great managers who made tons of money but among the other 7,000 there’s a lot of disappointment,” he says.
Measuring hedge fund returns is complicated by the fact that investors tend to be flighty, flocking to funds which have done well and selling out after losses. As a result, investors miss out on much of the dazzling percentage returns that make the headlines.
Ilia Dichev at Atlanta’s Emory University and Gwen Yu of Harvard, in a forthcoming paper, have found that actual returns to investors are three to seven percentage points lower than headline returns. Since 1980, the average hedge fund annual return was 12.6 per cent. But, weighted for investment flows, the average investor received only 6 per cent, they found, well below equity returns and not much better than bonds. |
|
|
| Back to top |
|
|
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
| Posted: Wed Sep 08, 2010 10:30 am Post subject: |
|
|
Can a 2/20 fee structure survive in a $1.53 trillion industry? Probably not. Look for a radical change in fee structure at the margins or another significant shrinkage in the industry over the next few years. Whatever growth there is would have to be in funds that specialize in emerging market and frontier securities, or new kinds of derivative concepts:
---------------------------------------------------------------------------------
Hedge funds shrink in July as billions walk
Wed Sep 8, 2010 3:58am EDT
20:59 07Sep10 -
BOSTON (Reuters) - The global hedge fund industry shrivelled a little more in July when investors pulled out nearly $3 billion (1.9 billion pounds) after the loosely regulated portfolios posted losses in May and June, researchers reported on Tuesday.
Assets stood at $1.53 trillion, their lowest level since November 2009, according to data released jointly by TrimTabs and BarclayHedge, firms that track performance and flow data.
"Hedge funds posted a positive return in July, but they did not regain the ground they lost in May and June," said Sol Waksman, founder and president of BarclayHedge. "They also underperformed the S&P 500 by five percentage points," he added.
Worried about a slower than hoped-for economic rebound, investors were quick to cut risk in their investment portfolios by pulling $1.9 billion from funds specializing in emerging markets, the report found.
Meanwhile funds specializing in fixed income strategies -- often favoured during uncertain economic times -- pulled in $1.2 billion. Commodity trading advisors, who generally let computer models drive their trading moves, saw inflows of $3.8 billion. |
|
| Back to top |
|
|
rffrydr
Moderator
Joined: 30 Oct 2005
Posts: 16445
Location: Sunny California
|
|
| Back to top |
|
|
diesel
Moderator
Joined: 05 Oct 2006
Posts: 793
Location: Australia & New Zealand
|
|
| Back to top |
|
|
HenryTo
Site Admin
Joined: 06 Aug 2004
Posts: 11260
Location: Los Angeles, California
|
| Posted: Thu Jun 17, 2010 3:24 pm Post subject: |
|
|
The end, and now the rebirth, as institutional investors return to start-up hedge funds:
------------------------------------------------------------------------------------
Seed investors return to start-up hedge funds
(Reuters) - Sovereign wealth funds and pension funds are backing start-up or small hedge funds again, said FRM Capital Advisors, bucking a trend seen since the credit crisis for clients to favour the perceived safety of big funds.
Patric de Gentile-Williams, chief operating officer of hedge fund seeding specialist FRM, said his portfolios have raised a net $70 million (£47.8 million) so far this year -- after raising "very little" in 2009 -- and he expects further commitments.
Total assets stand at about $360 million.
"Investors are allocating to this space," he said in an interview on the sidelines of the GAIM hedge fund conference here. "We're seeing the most sophisticated investors look at this space.
"It (the $70 million) is the first part of what we expect to be a series of capital raisings. It's a very strong pipeline. Conversations will, I think, lead somewhere, whereas last year conversations were about maintenance of (relationships)."
Investors were happy to back start-up or small-scale hedge funds during the industry's pre-credit crisis boom -- when high-earning traders would leave a bank and set up on their own -- in the hope of unearthing a talented manager.
However, following the downturn and a number of blow-ups and frauds in the industry, investors have preferred to stick with bigger funds, which they often regard as safer or having better risk management.
De Gentile-Williams said investors such as sovereign wealth funds, large pension funds, family offices and some insurance funds were looking at committing between 5 and 10 percent of their hedge fund allocations via fund managers such as FRM and other firms.
"It's pension funds with large hedge fund portfolios, saying 'it's clearly part of the hedge fund space, we should have an allocation of 5-10 percent to start-ups, seeding and young managers'," he said.
"We've seen some competitors spring up. Very large institutions are getting their own program run by a specialist manager.
Seed investors give money to start-up or small-scale managers in return for a share of the fund's revenues in the future or a stake in the management company.
De Gentile-Williams also said over the past year he had increased the average size of investments he is making with small-scale managers to around $50 million from around $40 million.
"We were doing 40s, now we're doing 50s. It allows managers to grow faster." |
|
| Back to top |
|
|
rffrydr
Moderator
Joined: 30 Oct 2005
Posts: 16445
Location: Sunny California
|
| Posted: Tue May 11, 2010 4:15 pm Post subject: |
|
|
MacroMan "restructures.:
http://macro-man.blogspot.com/2010/05/today-marks-important-end.html
What the Great Recession taketh away it also giveth. It's a shame that employment at a hedge fund automatically disqualifies one to public express their opinions--something "he'd never risk." So much for risk.
_________________
Today is the Tomorrow you worried about Yesterday! |
|
| Back to top |
|
|
Please log in to view without the ad banners |
|
|
|
You cannot post new topics in this forum
You cannot reply to topics in this forum
You cannot edit your posts in this forum
You cannot delete your posts in this forum
You cannot vote in polls in this forum
|
Powered by phpBB
|
FAQ
Search
Memberlist
Usergroups
Statistics
Register
Profile
Log in to check your private messages
Log in
