Hedge Funds : Another Superman Falls to Earth
Remember Superman the movie, where Lex Luther takes away the super hero’s powers with a Kryptonite necklace? Well we’re here again. Only this time it is the financial equivalent of the man of steel – the hedge fund manager that has met their own version of the power-draining substance. Barely a day passes it seems without one of these masters of the universe crashing to earth with swinging losses in their fund, or non-survivable business issues.
RAB Capital star, Philip Richards, has stepped down from his role as CEO of the business in the wake of a profit warning and a plunging share price. Mr Richards has already taken some flak taking a large position in ailing UK bank Northern Rock before it was nationalized. Now he goes back to focusing on the group's special situations fund. So at least he keeps the day job, but this is an embarrassing development for the company.
RAB’s news came just a day after Dwight Anderson’s group Ospraie declared a high-profile commodity fund would be closed down having lost a quarter of its value in August alone.
Now there are some who will revel in the Zeitgeist – the hedge fund community is not known for its modesty. Not me. It is not nice to see other people losing money, even worse if they lose their jobs and their livelihoods. But there are set to be more announcements like this over coming weeks and months. Judging by the rough performance data for July and August, the hedge fund industry appears to have been badly caught out by the strengthening dollar and weakening commodity prices.
Let's get this clear from the outset – I am a fan of Absolute Return.
I have always struggled with the idea that a money manager should have to go into battle with the market everyday restricted by a mandate. This is the definition of the traditional long-only industry. The terms of engagement prevent the manager fully exploring good market short ideas, or even the combination of other asset classes or geographies that could bolster performance. As a result all sector or geographical funds under-perform when the cycle goes against them. Full Stop. Tough. So investors need to be smart enough to switch their funds themselves.......but, er, isn’t that why we gave the money to a professional...because we don’t have the resources to make that decision ourselves.
Ok, there are developments on the theme with 130/30 products etc...but the industry has not walked very far away from the mandate model. Cynics have also long contended that too much of that industry is concerned with asset-gathering (getting in new funds) rather than performance of existing assets under management, which requires much harder work.
That is where the supermen and superwoman came on to the scene. The hedge fund became the vehicle of choice. With their opportunity to pursue a freer range of asset classes and use hedging instruments they challenged the status quo. They didn’t talk about relative performance....they talked about never losing your money. Okay, they wanted to be well rewarded for their work...but, hey, why should I care...they were never going to lose my money. Right? Wrong, as it turns out.
We are starting to learn what many have suspected, the hedge funds rode the wave of liquidity like everybody else. That when they said they had identified portable alpha...they really meant more beta. The hedge funds that are being forced to liquidate are also revealing another secret – that in some cases investors may have to wait up to 3 years to get their money back because the positions are illiquid.
Not every fund is going to have problems, clearly, this is a diverse group of individuals with a multitude of styles and skills. But enough are going to suffer to make it feel like a rout.
There is no free lunch. That thudding noise you can hear is the sound of yesterday's stars falling to earth. In the words of ECB bank governor, Jean Claude Trichet, this is one more ‘necessary but painful’ adjustment in expectations that has to take place.
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