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Browse by CategoryHome » Category List » Hedge/Long-only Convergence
Silos, flesh wounds, the “disintermediation” of poultry, and a call to action4 June 2008More from London (see yesterday’s posting for background)… A pension plan as a financial services firm
It turns out that this view of the hedge fund portfolio as a sort of arm’s length asset manager with only one client can also be applied to the pension fund as a whole. That’s how one major private pension fund described it to a gathering here in London today – as a “financial firm that produces pensions.” This view also has implications for “liability-driven investing” (LDI). Some said that the process of liability-matching and return-enhancing should be kept separate within this financial services firm. For example, one major pension fund here created a team focused on removing interest rate and inflation risk (via a “matching portfolio” designed to match the plan’s future liabilities to pensioners) and a separate team focused solely on trying to squeeze additional returns out of those assets. In true arm’s length fashion, the “return portfolio” is required to literally borrow assets from the matching portfolio – creating a real economic incentive to beat the short-term rates charged on this internal loan.
Comments »Day one from the un-named event in London2 June 2008We report today from a three-day London gathering of some of the world’s largest institutional investors and the hedge funds that serve them (see postings from sister event in Boston last fall). The event focuses not on hedge funds per se, but on how institutional investors use them (portable alpha, fees, alpha/beta separation, 130/30, alternative beta, analytics etc…all the good stuff). In order to create an open atmosphere for candid discussion, organizers have us on a tight leash (there are otherwise no media present here and we can’t even tell you the name of the event). And while we can’t really tell you who said what today, we can pass along some of the major themes from the conference floor. Here’s some of what we heard… Hedge Funds: Innovation from the garage?
Most here held the opinion that “hedge funds” was no longer a useful definition of an asset class. One panellist put it in terms of innovation. He described hedge fund companies as a “platform for innovation”. In an allusion to innovation in the technology sector, he said that “innovation usually happens in garages”, not in large corporations (a clear reference to the oft-cited garage where tech behemoth Hewlett Packard was born - pictured above). In other words, it may be difficult for a large traditional manager to deliver on the major promise of the hedge fund sector - innovation. Issues such as profit- (and risk-) sharing, for example, can often confound the efforts of long-only managers (e.g. banks – see related WSJ piece from last week) to maintain hedge fund programs over the long term.
Comments »Alpha-centric investing described as a “seismic shift”9 May 2008
Now the landscape is changing. Or perhaps more accurately, investors are now expressing a desire to try their hand at portfolio construction using basic ingredients such as cash, beta, and alpha. This FT article (”Equity fund outflows bring need to adapt“) is a must read for anyone who thinks we’re nuts. The newspaper describes the changes facing the asset management industry as nothing less than a “seismic shift”. Kevin Parker, the head of Deutsche Bank’s $800 billion money management business tells the FT:
The FT also cites Jim McCaughan, CEO of Principal Financial Group as an advocate of alpha-centric thinking:
Comments »HF and PE managers square off on implications of credit squeeze9 May 2008
Samper was a member of a panel discussing the different views taken by hedge funds and private equity funds on the recent credit crisis. Catherine Lewis, a partner with London-based private equity firm Parish Capital, said there was now a significant alpha-generation potential for small private equity funds that focus on niche sectors. In this segment, she said, transactions are less likely to be over-leveraged and are therefore more likely to flourish in the current credit environment. Lewis said that the illiquidity crisis facing credit markets was leading to a marked slowdown in new investment activity, a return to more conservative deal structures, postponed exits and smaller IRRs.
Comments »Is “Active/Passive” another term for “Alpha/Beta”? Not quite.24 April 2008In December, we told you about plans for a new series of mutual funds constructed by combining active and passive components (see posting). Boston-based FundQuest had always been content to provide the plumbing for the mutual fund industry - manager selection, back office support, marketing services and sales support to financial advisors. But the firm announced last week that it has finally launched its first mutual fund based on these ideas- called ”ActivePassive Portfolios” (see sales brochure). While this sounds like an oxymoron, it’s a great example of alpha/beta separation extending slowly, but surely, into the retail marketplace. As a sort of pre-packaged alpha-beta solution, it reminds us of the Janus institutional offering launched last year (see related posting). Here’s what they say about the “optimal” ratio for the offering:
Comments »Pensions warned on hedge funds (as they lose billions on long-only funds)22 April 2008
It’s certainly not unlikely that some pension fund somewhere will invest in a hedge fund or structured product that could lose 20% in the future. Although with overall hedge fund allocations in the low single digits for most investors, even that loss would only put only a small dent in returns. But apparently pension funds have become quite adept at losing it on their own - without the help of such forecast hedge fund drawdowns. A Northern Trust study released today concludes US pension funds are down due to their long-only equity portfolios. According to the firm’s press release:
Comments »Institutional alpha expectations remain (relatively) benign despite hype8 April 2008Information is freer flowing than ever. As a result, gaining an information advantage – the foundation of alpha generation – is becoming notoriously difficult. Despite what the media says about institutions seeking fantastic returns from alpha, most institutions are painfully aware of how hard it is to beat the market over the long term (i.e. to produce true alpha). Far from being dreamers who have fallen under the spell of money managers (as some have accused them), institutions remain remarkably pragmatic. A recent survey by consultancy Greenwich Associates hits the point home. The firm surveyed 583 institutions and found that the average expectation for alpha was actually a paltry 1.2% per annum. As the chart below from the report shows, small public pension plans have the most optimistic view of their manager’s skill-level. Conversely, small private pension funds have the least rosy view of their managers’ ability to deliver alpha (chart beloe shows annual alpha expectations in basis points).
Comments »New Rydex “alternative strategies” fund shows why the term is so hard to define2 April 2008
Rydex’s response was to launch a fund of funds called the “Alternative Strategies Allocation Fund” that keeps things simple for investors by wrapping up various alternative investments into one vehicle. But don’t call it a fund of hedge funds because its total hedge fund content weights in at exactly zero percent. It’s actually a fund of: managed futures, commodities, currencies, real estate and tiny bit of, wait for it, hedge fund replication. As the firm points out in a press release announcing the launch of the strategy, retail investors have had a tough time participating in the alpha-centric investment revolution so far:
Naturally, we fully support efforts to allow average investors to hold uncorrelated, alpha-producing assets. But the complexity of this particular product provides an interesting insight into why investors are apparently so confused.
Comments »What are we to make of hedge fund attrition data?1 April 2008
A hedge fund industry report published last week by Credit Agricole Asset Management contained so much information that you could take any number of messages from it. Headlines ranged from the positive (”Hedge funds hold nearly $2.2 trillion, report says“), to the benign (”New York Home To 25% Of $2T Hedge Fund Industry“) to the downright negative (”Long Live Hedge Funds? Not Quite“). We’re starting to see a lot of talk about hedge fund attrition and longevity. But unfortunately, this issue is more complex than it is often made out to be. For example, one media outlet said:
Naturally, in a growth industry many suppliers will necessarily be young. Nothing about eventual longevity can be concluded by this fact. Earlier this month, the Wall Street Journal took a similarly negative position based on scant evidence of hedge fund attrition (”Hedge Fund Figures Suggest Worse to Come“). Said the paper:
Comments »Start your alpha engines, “the race is on”23 March 2008
Hedge Funds “outperformed by a very handy margin” Of course, this convergence presupposes that these alternative asset classes actually represent something of value. And after racking up volatile results over the past 6 months, hedge funds, for one, are raising some eyebrows. Still, Merrill argues that recent performance does little to diminish the value of hedge funds:
This last point bears some reinforcement, we believe, because “bubbles” occur when investors bid up prices in a relatively short amount of time. As this report points out, the percentage of assets managed by hedge funds has grown rather slowly, they continue to represent less than 1.5% of global “mainstream” assets and their net asset values are based on underlying securities, not a subjective premium like, for example, tech stocks (see related posting).
Comments »Alpha-centric Newsreel14 March 2008
Morgan Stanley says Alpha/Beta Separation “the way of the future”. The AllAboutAlpha site partner lays out its alpha-centric philosophy telling IPE that the pension industry is about to experience a “second wave” of LDI strategies based on the separation of alpha and beta. Dutch Insurer Aegon splits portfolio into alpha and beta segments are farms each one out to a different manager. According to the firm’s press release, “By managing the parts separately from one another, better risk-return ratios are possible. This way, more sources of value added will be available and a greater focus can be created in the portfolio. Separating the US share portfolio has created an increase of a yearly average of the total return of 2.5% without any risk increase.”
Comments »Passive managers spark space race with launch of new satellites13 March 2008
Assembling such an active/passive portfolio lies at the heart of alpha/beta separation. But since the term “alpha beta separation” conjures up memories of high school math club, marketers of asset management services have coined the term “core/satellite” investing (where “core”=passive and “satellite”=active). What’s striking is that, rather than being ridiculed by traditional passive managers, core satellite is being embraced by them. For example, this brochure from Barclays (iShares) is subtitled “creating harmony between index and active strategies”. It says:
Comments »January turmoil has “sharpened the argument for the convergence of traditional and alternative asset management”: Report19 February 2008Putnam Lovell released its annual survey of asset management M&A this month. This 45 page document is packed with useful information and is a must-read if you follow the paradigm-shifting going on in this industry. Here are some highlights… When you were a kid, did you ever say you wouldn’t do something “for all the money in the world?” Well, we now you know exactly how much that is. According to the report, there was $68 trillion in major capital pools worldwide in 2006, and Putnam Lovell’s “most conservative forecast” shows this amount rising to almost $110 trillion by 2012.
The report shows that last year saw another leap in M&A transactions involving alternative asset managers. There were 76 transactions - up from 60 in 2006. However, alternative managers’ proportion of all asset management transactions remained stable at around one-third.
Comments »BlackRock an example of the “vise-like squeeze”?20 January 2008
BlackRock’s press release alludes to this trend:
Comments »Morningstar’s Deutsch: 130/30 “not monolithic” but does represent a “convergence” in money management1 January 2008Welcome back. Today, we bring you another in our ongoing series featuring the thoughts and perspectives of members of the CAIA (Chartered Alternative Investment Analyst) Association. You may recognize the name Steve Deutsch from recent media articles on 130/30 investment vehicles. Deutsch is Morningstar’s resident expert on these vehicles and therefore has a bird’s-eye view of the sector and its recent performance. Below, Deutsch draws on his company’s extensive database to take a closer look at the 1X0/X0 phenomenon. ALTERNATIVE VIEWPOINTS (powered by CAIA):
Special to AllAboutAlpha.com by Steve Deutsch, CFA, CAIA, Director of Collective Investment Trusts/Separate Accounts, Morningstar, Inc. Despite all the excitement about short-extension strategies, 130/30, 120/20 and other constrained ratio investment products are not that monolithic or revolutionary (Morningstar refers to them simply as “leveraged net long”). Contrary to popular assumption, most are not purely quantitative. Nor are they the sole domain of mutual fund companies and retail investors. And given their short histories, many remain unproven. As a result, it is far too early to determine if these vehicles will reach $2 trillion (or even $1 trillion, for that matter) in the next five years. Not Monolithic 130/30 is a shared investment strategy, but that’s not a basis for large categorical conclusions. It’s misleading when money managers or the media make broad general conclusions such as “130/30 strategies did well (or poorly) in the early days of the credit crunch market downturn.” Sharpe’s law of performance attribution has been cast aside in this discussion. As always, performance is driven by an investment vehicle’s underlying assets. In the Morningstar databases we have seen these strategies predominantly invest in ”large blend” assets. But we also see mid- and small-cap, corporate and government fixed income, and international varieties of these products. Below are some randomly selected strategies, for both institutional and retail investors, with recent net portfolios presented in a Morningstar ownership zone analysis. The “centroid” indicates where investments are concentrated, while the ellipse shows the range of holdings in each 130/30 net portfolio. (Note that the selected money managers actually have very diversified leveraged net long holdings.)
Comments »A closer look at Bear’s new 130/30 mutual fund19 December 2007
But sensing the vast potential, a large US financial services firm filed their own 130/30 mutual fund prospectus on Monday. That firm is none other than Bear Stearns. As Morningstar’s Marta Norton tells the Wall Street Journal this is surprising since Bear doesn’t have many mutual funds. Says Norton:
The preliminary prospectus, filed with the SEC on Monday, reveals the following about the “Bear Stearns Multifactor 130/30 US Core Equity Fund“:
Comments »Fifth birthday of bull run making mutual funds look better than they are12 December 2007
The last few years have provided mutual fund investors with a unique opportunity to compare their funds to a full market cycle, not just to a bull market (where levered or growth funds are likely outperform) or a bull market (where unlevered or conservative funds are likely to outperform). The chart below shows the rolling 5 year (weekly) returns of the S&P 500 beginning in January 2005. The section of this chart shaded in blue represents the future 5-year rolling returns of the S&P 500 (not annualized) assuming - for the purposes of this argument - that the index flatlines at Tuesday’s close until the end of the decade.
Comments »There’s a network who’s sure…all that glitters is gold11 December 2007
- Robert Plant The hottest ticket on planet Earth last night was undoubtedly the much-hyped Led Zeppelin reunion in London. (No doubt a few of you were there). Zeppelin fans have long since debated the significance of playing the band’s anthem Stairway to Heaven backwards to divine its secret satanic messages. Well, you don’t have to play the song backwards to see that Robert Plant was clearly referring to the hedge fund industry (at the time, a rather small group) when he warned not to be alarmed by short-term hedge fund volatility - which he called “a bustle in…hedge row“. (For anyone who doubts this, just explain to us why the cover of “Led Zeppelin IV” pictures a man with part of a hedge on his back… We rest our case.)
Comments »Vanguard moving to the, um, vanguard?10 December 2007Financial Week reports that Vanguard, long-time champion of passive investing has shown an uncharacteristic interest in absolute return (read: hedge fund) investing recently. Says the paper:
Lipper senior analyst Ferenc Sanderson tells Financial Week that this is another example of mutual funds “jumping on the bandwagon” when it comes to using hedge-like strategies. And Morningstar’s Marta Norton says this is probably proof that hedge funds are “of much broader interest” than people thought, telling Financial News, “Maybe there is more staying power”.
Comments »Mutual fund company launches retail portable alpha funds based on “real” alpha3 December 2007
For several years now, academics and practitioners alike have questioned whether the alpha reported by hedge funds is ”real” or whether it’s just alternative or “exotic” beta. Yet it seems the mutual fund industry has been largely immune to such rigorous analysis. Once the influence of the market is removed from a mutual fund’s return stream, it is often assumed that what remains must be alpha. However, this alpha is no more “real” than the alpha produced by a market neutral hedge fund. Now Investment News reports that one mutual fund company has applied concepts such as “exotic beta” to the mutual fund industry. The result is a sort of packaged portable alpha solution for US retail investors:
The idea of pre-packaging alpha and beta in various, flexible combinations is the stock-in-trade of many funds of hedge funds (see related posting). But Investment News may be right that the mutual fund industry has never really embraced portable alpha-like solutions. FundQuest may have institutional investing in its blood, however. It’s owned by BNP Paribas, the mega-manager with deep institutional roots.
Comments »“The more we get together, together, the happier we’ll be…”30 October 2007
However, “convergence” between different quarters of the asset management industry hasn’t always come as naturally. Now a report released this week by KPMG and UK-based consultancy CREATE says that although convergence is a new subject, it is already a key part of the curriculum. Regular readers may remember the last report from this prolific partnership titled “Hedge funds: a catalyst reshaping global investment” (see related posting). Well, apparently the “catalyst” is catalyzing nicely. The newest edition, “Convergence and divergence: New forces shaping the investment universe” shows that hedge funds have stirred the asset management pot. The report basically makes the case that the asset management industry is re-inventing itself through a process of creative destruction. Here are a few of the report’s 12 key themes:
Comments »Watson Wyatt: 130/30 breathing new life into asset management9 October 2007
The global money management industry now oversees US$64 trillion. That’s up 19% ($12 trillion) since last year. (Not a bad haul). The industry continues to consolidate, however, with the top 20 asset managers now controlling 39% of this or about US$25 trillion (12 of the 20 have assets of over $1 trillion). Like the recent II/McKinsey study, this one also sees a “barbell” developing in the industry with small, niche players and global behemoths experiencing an easier time than mid-sized managers.
Comments »Update: Morningstar finally puts on shorts28 September 2007
Well “John C” updates the story today with the following comment added to the posting:
He’s right. The ING 130/30 fund, for example, now includes this nifty graph (circled):
Comments »The (Hedge Fund) Evolution of Bill Gross13 September 2007
If this is true and PIMCO is planning to offer hedge funds, it represents an about-face from only a few years ago. In an August 2004 commentary (”Lemonade for Sale”), PIMCO boss Bill Gross had this to say about hedge funds:
Two years later, in November 2006, Gross seems to have come around to the fact that hedge fund strategies couldn’t really be ignored. He said that if PIMCO played its card right by adopting just a teeny bit of leverage,
And here we are today, with PIMCO reportedly counting on Mohamed El-Erian to “increase the role” of hedge funds. Will PIMCO keep costs down and offer ”hedge funds on the cheap”? Stay tuned.
Comments »Why do so few institutional investors walk the talk on hedge funds?30 August 2007
It’s true that the report, based on a survey of pension fund managers, questions why institutions are not yet comfortable with hedge funds. But a careful reading of it (available here) suggests that the genie is out of the bottle when it comes to the search for alpha. Institutional hesitation stems mostly from current hedge fund business practices. And while operational challenges remain a barrier to acceptance by some, the report clearly shows that institutions still value what hedge funds aim to deliver: alpha. The study says that institutional investors fall into one of two categories:
Comments »Two new studies reveal secret sauce used by activist hedge funds28 August 2007
The first study, by Nicole Boyson and Robert Mooradian of Northeastern University concludes that - contrary to previous findings - activist hedge funds actually do accompany improved business performance. The researchers cite earlier research that finds activist investors (pensions and mutual funds, not hedge funds) are largely unable to create operational change and instead opt for governance improvements and a reduction of agency costs associated with management teams squirreling away too much cash. They say the inability to enact changes is often the result of a lack of resources dedicated to activism, political roadblocks, and inexperience actually running companies. However, Boyson and Mooradian find that activist hedge funds seem to be able to make things work where traditional activists have not.
Comments »More Bad News for Mutual Funds25 January 2007“Improved Study Finds Index Management Usually Outperforms Active Management”
The debate over whether hedge funds produce any alpha is essentially the same as the age-old debate between active and passive management. This recent piece of research weights in on the state of actively managed mutual funds and it doesn’t look pretty. According to the study, active managers add value (i.e. beat their benchmarks) in US mid-cap value, US small-cap blend and international small & mid-cap blend classes only. On average, active managers in all other asset classes under performed their comparable index funds.
Comments »Hedge funds for retail investors? An examination of hedged mutual funds22 January 2007By: Vikas Agarwal, Georgia State University; Nicole Boyson, Northeastern University; Narayan Naik, London Business School We have recently posted on a couple of stories regarding a new breed of “hedged” mutual funds that has emerged as US mutual fund regulators relax rules governing short-selling. In this well-timed research paper academics from the London Business School, Georgia State, Northeastern University in Boston crunch some numbers to get a handle on this phenomenon. They use data from Morningstar and Lipper (both of whom seem to be preparing for an arms race in hedge fund reporting). They conclude a) that actual hedge funds outperform hedged mutual funds and b) that hedged mutual funds managed by actual hedge fund managers outperform those managed by traditional long-only managers. To explain these phenomenons, the authors propose three hypotheses…
Comments »2007: Year of Hedge/Mutual Fund Convergence?16 January 2007
This article by Murray Coleman of Dow Jones MarketWatch suggests the phenomenal growth of long/short mutual funds in 2006 will continue into ‘07. Says Coleman:
Long/Short or “Long-Then-Short”? This seems encouraging on the surface. But the rest of this article leaves us a little concerned. The piece continues:
Comments »Forward Launches Hedge Fund in Sheep’s Clothing14 January 2007By: FinAlternatives
According to FinAlternatives, San Francisco-based Forward Management is launching a mutual fund with a long/short credit mandate (by unhappy coincidence, that’s the strategy last week’s Deutsche Bank survey said was going to shrink by 7% in 2007). Investors Love Performance Fees Okay. Maybe “love” is too strong a word. But after all the bemoaning of hedge fund fees by the media, Forward firmly believes clients actually don’t mind paying performance fees. According to Forward’s President Alan Reid, performance fees are okay with retail investors as long as they don’t have to deal with those pesky K-1s:
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As some pension funds begin to shift from funds of funds to single-manager hedge funds, they usually create what amounts to their own internal fund of funds. The only difference between this fund of funds and a “real” fund of funds is that the pension has only one client: its own pension plan. 
After years of steady growth, it’s no surprise that traditional long-only money managers have been licking their chops over the potential to offer hedge funds. Meanwhile, hedge funds have been strangely attracted to the gazillions of dollars under management by the long-only managers. Today in London, managers and investors debated the relative merits, not of hedge funds and long-only funds, but of hedge fund management companies and long-only management companies. While many people can tell you the difference between a hedge fund and a traditional long-only fund, few seem to agree on the unique characteristics of each type of company.
We have always argued that actively-managed mutual funds are essentially a marketing package for two fundamentally different formations: a large deposit of beta and a vein of pure alpha. Unable to travel either the peaks and valleys of beta or the undulating topography of pure alpha, mutual fund companies long ago found a neutral territory that seems to have satisfied investors worldwide for over 50 years.
(Madrid, April 25) - The former head of the pension for a large US state has suggested the value provided by funds of funds has increased as a result of market turbulence. Al Samper, former Head of Virginia Retirement System told a gathering of the Chartered Alternative Investment Analysts Association in Madrid recently that protection against the idiosyncratic risks of single strategy hedge funds is more important than ever for institutional investors. He also told the audience that a long term investment horizon was a prerequisite for adding alternatives to a traditional portfolio.
The Chief Investment Officer of Dutch insurance firm Interpolis 
With so many “alternatives” these days (alternative energy, alternative music, alternative lifestyles) it’s no wonder a recent survey found there was general confusion about the definition of “alternative investments”. 
In a 
Here is a sample of the news stories we didn’t get a chance to explore in detail this week. As usual, all of them can be found on the Alpha-ticker above or in the news items section of AllAboutAlpha.com (free registration may be required for a few of these).
Yesterday, we mentioned an unreleased academic study that measured the aggregate “cost of active management” in US equity markets. We concluded with remarks from one particularly staunch proponent of efficient markets. But even he left the door open for active management (presumably where markets were less efficient). 
BlackRock’s Q4 earnings announcement last Thursday showed why alternative investments are so popular amongst asset managers (see Bloomberg piece, “
130/30 investing is still generally considered to be for institutions only, even though its simplicity and ”hedge fund light” characteristics make it well suited for the retail mutual fund world. Only a handful of 130/30 mutual funds are tracked by Morningstar so far and one Canadian 130/30 fund prospectus was actually pulled from the market (for reasons unrelated to the strategy itself). 
With the recent 5th birthday of the latest bull market, it’s getting hard to find a mutual fund that hasn’t produced great 5-year returns. Apparently this fact is not lost on Morningstar, which is 
“If there’s a bustle in your hedgerow, don’t be alarmed now,
Can you spot a fake? 
From an early age, kids are taught to cooperate, to share toys, to take turns, and to celebrate their differences by converging into a circle each morning. 
Pensions & Investments, one of our favorite institutional investing newspapers, hosted a webcast this morning featuring Watson Wyatt’s London-based globe trotting guru, Roger Urwin. Although the event was billed as a recap of Watson Wyatt’s 
You may recall that we had a bone to pick with Morningstar about the absence of any short data on their website (”
In a follow-up to Monday’s posting about the impact of hedge fund activism, here are two recent studies that seem to support the OECD’s claim that activist hedge funds are good for corporate governance. Both of them reveal some of the secret sauce that can make activist hedge funds so tasty.
By: Millicent Holmes, Brownson, Rehmus & Foxworth Inc.
We’re only a few weeks into 2007 and there seems to be an inordinate amount of buzz about mutual funds that are able to pursue non-traditional (read: “hedge fund”) mandates.
Most mutual fund/hedge fund hybrids have taken the form of “1X0/X0″ strategies with a net market exposure remaining at 100%. But here’s an example of a mutual fund that is pursuing an all-out hedge fund strategy.