October’s Wild Ride
October created quite a wild ride for investors across investment strategies and asset classes. The S&P 500 Index was off by more than 5.5% by October 15th while the DJ Euro Stoxx 50 Index was down 11% by mid-month. The VIX began the month at about 16 but spiked to more than 31 intraday on the 15th. All appeared lost as hedge funds, specifically event driven funds, were facing large losses due to the AbbVie – Shire deal falling apart. Hedge funds de-risked, investors panicked, close family members began calling me asking whether they should go to cash; all signs of what was to follow over the next couple of weeks. By the end of the month domestic equity indexes were all solidly in the green. The VIX fell to lower levels than it began the month, closing at 14.52, and once again all was right in the world. Except for the fact that many investors, hedge funds among the worst offenders, sold risk exactly at the worst possible moment. This left most hedge fund indexes flat to down for the month and investors rather disappointed.
Liquid Alts Corner
The big story on fund flows for the month was the large losses in long/short equity driven almost entirely by MainStay Marketfield Fund, which shed more than $2.2 billion in assets bringing YTD losses to nearly $3.7 billion. In addition, even those who were still garnering assets, such as the Gotham Absolute Return Fund and Robeco Boston Partners L/S Research Fund, did slow at a much slower rate. Multialternative continued to raise assets, bringing the categories YTD flows just ahead of long/short equity at nearly $7.3 billion after raising $550 million during October. Blackstone Alternative Mult-Strategy Fund led the category with $100 million in flows. Managed Futures was the only other category with positive flows, bringing in $360 million as Catalyst Hedged Futures and AQR Managed Futures Strategy Fund each gained a bit under $100 million in assets.
Making Hedge Funds Look Cheap
Jason Kephart of Morningstar did a nice write-up in HFMWeek recently regarding ways many liquid alternatives are less than fully transparent with the actual fees paid by the end investor.
Recently, the low-cost focus has shifted to the hedge fund world, where management fees of 2% and performance fees of 20% have historically been the norm. The September announcement by the California Public Employees’ Retirement System (CalPERS), the nation’s largest pension fund, is ending its investment in hedge funds (partly because of the costs), and will likely only increase their scrutiny on fees.
Some observers view the focus on hedge fund costs as a positive for liquid investments, which, for the most part, are cheaper than hedge funds. The average liquid alternative mutual fund charges about 1.8% with no performance fee, and such funds come with the bonus features of daily liquidity and portfolio holding transparency, both scarce in the hedge fund world.
Indeed, that trinity of features included in liquid alternatives has already led to an influx of investor cash. Liquid alternative mutual funds took in net inflows of $20bn YTD through August and total net assets now stand at $161bn, up from $50bn in 2009.
There is a small subset of managed futures funds, however, that notably lack two of those features. About one-third of the 50 managed futures mutual funds available today don’t fully disclose fees or portfolio holdings to investors. These funds are investing indirectly in third party CTAs through total return swaps. The swaps allow the mutual funds to hire underlying managers that aren’t willing to give up their performance fee, a fee that is restricted in mutual funds by the Investment Company Act of 1940. The total return swaps also act as a kind of invisibility cloak for the management and performance fees of the third-party CTAs and their underlying holdings.
(HFMWeek)
Columbia and Blackstone Join in Liquid Alts Initiative
Blackstone Alternative Asset Management agreed to research and develop an investment offering, according to a statement today from the Columbia business at Ameriprise Financial Inc. (AMP). Class A shares of the mutual fund will be available to the general public with a minimum initial investment of $2,000 for most buyers, and the maximum sales charge is listed as 5.75 percent, according to a prospectus. Blackstone funds will be included as part of Columbia’s offerings.
Asset managers have been adding alternative mutual funds to win clients and generate fee revenue. The offerings use approaches traditionally employed by hedge funds, such as betting against stocks through short sales or investing in non-traditional assets, including leveraged loans and commodities. Boston-based Columbia hired William Landes from Gottex Fund Management Holdings Ltd. in June to expand specialized strategies.
“The objective is modest volatility, downside-risk protection, and diversification against the other assets in the portfolio,” Landes said in an interview today. “I would argue if a category like alternatives is able to deliver that, it is applicable to anyone’s portfolio.
In The News
Tough Month for Hedge Funds
As mentioned above, it has been quite a gruesome month for many large hedge funds.
This month has not been kind to some of the biggest names in the industry, with the likes of Brevan Howard Asset Management, Fortress Investment Group, Pershing Square Capital Management, Tudor Investment Corp., and York Capital Management all suffering losses, some of them sizeable. Most notably, global macro funds—which posted big gains in September, marking a turnaround from a brutal first eight months—returned to their losing ways.
None more so that Discovery Capital Management, whose $15 billion flagship dropped 11.2% in the first half of October, more than doubling its year-to-date decline. Both Tudor and Brevan Howard’s macro strategies shed about 3% in the first two weeks of the month, putting the latter back in the red for the year after it managed to climb out of it in September.
Graham Capital Management’s $800 million Proprietary Matrix Fund is down 5% this month, erasing its year-to-date gains. A levered version of the same strategy shed 10%. Rubicon Fund Management’s Global Fund is also down 5% this month. Moore Capital Management shed 1.43% in the first week of October, increasing its year-to-date decline to 5.38%.
It isn’t only global macro managers struggling; Owl Creek Asset Management shed 9.1% through Oct. 17 and is now down 12.9% on the year.
Porsche (OTC:POAHY): The Hedge Fund that Also Made Cars
In 2008, Porsche was cruising. The luxury car manufacturer generated $13.5 BN in pre-tax profit, and sold a record 98,652 automobiles — a staggering $136K profit per car sold. Even for a luxury brand, the numbers seemed nearly impossible. Upon closer inspection, $11.5 billion dollars of that profit wasn’t from selling cars — it was from speculating on financial derivatives. Porsche was furtively amassing a sizable position in call options to buy up Volkswagen shares. As a report from the BBC put it, Porsche was “a hedge fund with a carmaker attached.” In 2008, the car business was good, but the financial engineering business was even better
In The Classroom
Long/Short Equity Analysis
Among the true liquid alternative categories tracked by Morningstar, Long/Short Equity is by far the largest in terms of assets under management. Contributing factors to the popularity of the strategy are the fact that the investment argument is intuitive and compelling, liquidity is a lower order concern than for many alternative strategies, and investors need not radically shift their thinking around asset allocation and portfolio construction in order to take advantage of these strategies. We’ll explore each of those ideas in turn.
Cliff Asness’ Somewhat Tepid Defense of hedge Funds
As usual, AQR’s Cliff Asness offered some great thoughts when it comes to analyzing hedge funds and the absurdity of direct comparisons to stock index returns. It is definitely worth a quick browse at the very least. From the conclusion:
Many of the current articles that are critical of hedge funds may be giving good advice, but for the wrong reasons. Hedge funds, broadly speaking, are, and always have been, net long equities, but nowhere near fully invested. That is, again, they have betas between 0.0 and 1.0, two numbers that would both be much easier to analyze than the truth! Their performance in the specific years often cited, 2008 and 2013, are much less anomalous when this is acknowledged. 2008 was not as bad for hedge funds as it looks when they are viewed alone, as they are net long and expected to fall with the market, and 2013’s underperformance versus the market is not as bad as hedge funds are not close to fully invested, and thus, not generally expected to keep up with a skyrocketing market.
And Lastly…
From everyone at 361, we wish you a wonderful Thanksgiving holiday filled with family, friends, and great food. And best of luck to those Black Friday shoppers and remember to use Alt+Tab on Cyber Monday.
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