The Long-enduring Odysseus must now set out for home. He shall set out on a raft put together by his own hands, and.. after great hardship, reach Scherie, the rich country of the Phaecians, who are close to the gods. They will take them to their hearts and treat him like a god. They will convey him by ship to his own land, giving him bronze, gold and woven materials in such quantities as he could never have won for himself from Troy
(Homer, ‘The Odyssey’)
Energy may be likened to the bending of a crossbow; decision, to the releasing of a trigger.
(Sun Tzu, ‘The Art of War’)
HEDGING THE MARKET
A W Jones, reputed to be the original Hedge Fund manager, is said to have adopted the ‘2 and 20 performance’ fee from his study of ancient Phoenician seafarers. In More Money Than God: Hedge Funds and the Making of a New Elite, Sebastian Mallaby points to a surprising by-product of the alternative funds industry, popularly known or derided as the Hedge Fund Industry. As a whole, hedge funds are crucial nodes in the link to global financial intermediation and prosperity. Within a globalised financial ‘network’, hedge fund partners can manage investment funds and allocate capital selectively and aggressively, thereby smoothing ‘wrinkles’ in partially efficient financial markets. They are “invested” in the full range of financial instruments, employing leverage to good effect and, as such, are able to regulate, and ‘re-regulate’ flows in bond and equity markets. Surprisingly, therefore, Hedgies help to keep the Market honest..
Indeed, I submit that Hedge Funds are a necessary counterpoint to price anomalies and destructive trends in so-called ‘efficient markets’. Hedgies, by nature and method, tend to be ‘contrarian’ investors offering alternative, innovative organisational models to counter market bias. In the process, I would argue that hedge fund managers, generally speaking, successfully adapt multiple strategies to identify motivated buyers and sellers. In turn, they can combat a great deal of corporate inertia and literally ‘hedge’ attendant market risk. In so doing, however, there are many ways to skin a cat. Of course, certain Hedge Funds have branched out already into multi-strategy platforms. Enthused by Mallaby’s text, let me take you on a Hedge Fund Odyssey..
THEART
I think it is instructive to read the personal histories of the most successful hedge fund managers. As I found in Mallaby’s very readable account, hedge fund luminaries, Marcus Steinhardt, George Soros and Julian Hart Robertson shared a love of the arts, history and philosophy in spite of their widely divergent management styles and investment strategies. A W Jones, founder of the Jones Fund and arguably the original ‘Hedgie’, was himself a man of great distinction and taste. He mixed in progressive circles in company with famous artists, scientists and philosophers. In his youth, Jones even flirted with Marxism. As Carol Loomis indicated in her still-fresh expose of the industry, this extends through the industry history via family offices and high-net worth wealth management funds. And creative capital raising and employment very frequently benefits creative endeavours. For example, the great cellist, Gregor Piatigorsky was invested in a family fund.
Specifically, Bruce Kovner, a Harvard Phd dropout who admired classical music, later served as chairman of the Julliard School of Music. At Harvard, Kovner actually studied with Daniel Patrick Moynihan, the illustrious lawyer and Senator, subsequently retaining his fascination with politics. As his former manager expressed, ‘I really value richness in intellect’ and admired Kovner as a ‘Colourful figure in art and politics’. Soros’ abiding enthusiasm for philosophy and his beloved mentor, Karl Popper are also well known. Although he received mediocre grades at theLondon
‘NERVELESS.. NO DISTRACTIONS’
Riding out economic vicissitudes, hedge funds hold collectively a substantial $trillion under management. Notwithstanding its size, more intriguing is the Industry’s diversity. As if a hundred flowers bloomed, new forms constantly proliferate: the long/short, event/’special situation’, arbitrage, leveraged, short selling, fund of funds models etc. (REFERENCE). In so doing, high-performing funds have consistently beaten the S&P 500 index and competing mutual funds for return on investment. FIGURES From Mallaby’s vignettes of leading industry figures, one senses that successful fund managers, ‘Combined a feel for the markets with Organizational talent’ (p 80).
The managers who last, it seems, cultivate a ‘healthy’ ego. In an otherwise rarefied world, Mallaby lists instances of gross extravagance and dirty dealing. However, what is remarkable is the seeming psychological stability, or ‘guts’ of successful fund managers and their consistency of principle. Through good times and bad, successful managers adhered to their investment axioms. In order to direct the flow of large portfolios, Hedge Funds are evidently required to hedge their risk. In consequence, it seems to me that leading fund managers such as Soros and Robertson were ‘ego-protective’: they were confident enough to bear market and personal strain (no pun on bear markets intended!), which strained their psychological and emotional well-being and their finances. At the same time, they were adaptable personalities, attuned to market dynamics as well as market dissonance. Hence, leading fund managers discarded mere mechanics in favour of the subtle psychology of successful investment and funds management. This reminded me of Charlie Munger’s paper, ‘The Psychology of Human Mis-judgment’. By the same token, managers managed their cognitive dissonance. As a result, they avoid the pitfalls of what I would term ‘corporate intertia’.
Through boom-bust sequences, successful funds appear to have an uncanny capacity to turn risk to good advantage – to ‘embrace’ risk for return. And the feature common to these successful funds is their aversion to standard operating procedure and establishment thinking. Reflecting what Wittgenstein would have styled a ‘family resemblance’, leading funds differentiate themselves from the wider investment universe by their entrepreneurial vision and ferocious drive. To my mind, this is largely traceable to leading fund manager’s personalities and their will to outperform. From the inception of the Industry in A W Jones’s long-short fund, the hedge funds industry has inspired financial innovation (for better or for worse), rewarded intelligence, encouraging risk-taking while simultaneously entrenching careful risk management. On the other hand, the disparate Hedge Fund universe is capable of absorbing insights from mathematicians such as Benoit Mandelbrot who challenged prevailing mutual fund trends and standard econometrics with his financial adaptation of Chaos Theory.
HEDGE FUND CONTRARIANISM: ‘CLASH OF THE FINANCIAL TITANS’
In the strangest coincidence, Mallaby opens his Chapter, ‘Top Cat’ with his depiction of a ‘Clash of the Financial Titans’. (Refer my previous post). Irony upon irony, the chapter opens with Buffet’s 1983 speech atColumbia Business School
To quote from Jensen’s, ‘The Performance of Mutual Funds in the Period 1945-1964’:
‘All three models are based on the assumption (Sharpe, Treynor, Lintner) that (1) all investors are averse to risk, and are single period expected utility of terminal wealth maximizers, (2) all investors have identical decision horizons and homogeneous expectations regarding investment opportunities, (3) all investors are able to choose among portfolios solely on the basis of expected returns and variance of returns, (4) all
trans-actions costs and taxes are zero, and (5) all assets are infinitely divisible’.
Most spurious of all, however, is Jensen’s ‘additional assumption’ that the capital market is in equilibrium. Guided by Eugene Fama, it appears to me that Jensen similarly assumed “away” the inconvenient absolute returns achieved by the likes of the Quantum and Tiger funds and Berkshire Hathaway without allowing for ‘fat tail’ risk such as Black Monday, Japanese deflation, negotiation of the Plaza Accord, devaluation of the dollar, the Tesebono crisis and Britain’s forced withdrawal from the ERM. Whereas Mallaby demonstrates Efficient Market theory originated on sleepy university campuses, Hedge Funds proactively seek ‘institutional distortions and debate the great themes of exchange-rate fixity versus interest-rate flexibility so as to fine-tune their market postures. In brief, this requires Hedge Fund managers to look beyond ‘beta’ distortions to profits latent in changing socio-economic conditions. Even value investors stay on the wave..
CONTRARY TO EXPECTATIONS: FIGHTING MARKET INERTIA
Hence, Mallaby’s book emboldened me: Hedge Funds will succeed over the wreckage of the efficient market hypothesis. As a supreme irony, father of neo-classical economics, Paul Samuelson invested in Helmuth Weymar’s Commodities Corporation fund to achieve returns on the basis of trend forecasting – anathema to most efficient marketeers. With the very inefficiencies in the Rational Expectations/EMT
‘.. the land of the fierce and barbarous Cyclopes, so called because of the large, round eye that glared from the centre of each forehead. They have lost the art of smithcraft known to their ancestors who worked for Zeus, and are now shepherds without laws, assemblies, ships, markets, or knowledge of agriculture; living sullenly apart from one another, in caverns hollowed from the rocky hills’.
If I might venture an overarching objective for the industry (as individualist as it is), I believe that Hedge Funds are well placed to attack waste and dissipation of assets and to reduce corporate inertia. Early in his book, Mallaby refers to the ‘glorious success’ of block trading, which empowered Hedge Fund managers to react to cross-over points in correlation of bank data, including bond spreads and home prices. A ‘vehicle for betting against conventional wisdom’, managers such as Marcus Steinhardt can trade on one-way bets against the Riyal, for example. Regardless of their macro or value posture, therefore, the top fund managers sloughed despair and sought to identify the main chance. A W Jones, repudiating the Dow Theory in ‘Fashions in Forecasting’, abandoned chart searching for the positive reinforcement of incentive to reward his best traders. Over time, factoring in explosive earnings, successful Hedge Fund managers have earned themselves, their limited partners and general investors a rather exclusive respect.
TAKING ON THESUMMIT NEW
BetweenTroy Ithaca
In researching this “new equilibrium”, I identified three ‘soft’ factors critical to successful investment: receptivity to ideas, ability to network and communication. I suppose one could argue that communication subsumes the other generic qualities. Nevertheless, I also believe that Mallaby’s text underscores the ‘scope of communication’ required by successful fund managers. This scope covers no less than the sum of what one might label the ‘cash flows’ from superior analytic ability, the ability to read and process data; the intuition and good sense to project trends or patterns and adjust strategy accordingly; and the personal ability to translate and discuss relevant positions and associated risks. And even though funds differ widely, in composition and outlook, I am taken by Julian Robertson of the Tiger Fund’s focus on ‘Long-Termism’. In brief, short-term logic becomes long-term insanity. Look beyond the moment!
And that final, elusive ability to get things done, superintendent upon all the other qualities.. Shall we call that Alpha??
What the ancients called a clever fighter is one who not only wins, but excels in winning with ease
(Sun Tzu, ‘The Art of War’)
THIS POST IS STILL UNDER CONSTRUCTION!
(Homer, ‘The Odyssey’)
Energy may be likened to the bending of a crossbow; decision, to the releasing of a trigger.
(Sun Tzu, ‘The Art of War’)
HEDGING THE MARKET
A W Jones, reputed to be the original Hedge Fund manager, is said to have adopted the ‘2 and 20 performance’ fee from his study of ancient Phoenician seafarers. In More Money Than God: Hedge Funds and the Making of a New Elite, Sebastian Mallaby points to a surprising by-product of the alternative funds industry, popularly known or derided as the Hedge Fund Industry. As a whole, hedge funds are crucial nodes in the link to global financial intermediation and prosperity. Within a globalised financial ‘network’, hedge fund partners can manage investment funds and allocate capital selectively and aggressively, thereby smoothing ‘wrinkles’ in partially efficient financial markets. They are “invested” in the full range of financial instruments, employing leverage to good effect and, as such, are able to regulate, and ‘re-regulate’ flows in bond and equity markets. Surprisingly, therefore, Hedgies help to keep the Market honest..
Indeed, I submit that Hedge Funds are a necessary counterpoint to price anomalies and destructive trends in so-called ‘efficient markets’. Hedgies, by nature and method, tend to be ‘contrarian’ investors offering alternative, innovative organisational models to counter market bias. In the process, I would argue that hedge fund managers, generally speaking, successfully adapt multiple strategies to identify motivated buyers and sellers. In turn, they can combat a great deal of corporate inertia and literally ‘hedge’ attendant market risk. In so doing, however, there are many ways to skin a cat. Of course, certain Hedge Funds have branched out already into multi-strategy platforms. Enthused by Mallaby’s text, let me take you on a Hedge Fund Odyssey..
THE
I think it is instructive to read the personal histories of the most successful hedge fund managers. As I found in Mallaby’s very readable account, hedge fund luminaries, Marcus Steinhardt, George Soros and Julian Hart Robertson shared a love of the arts, history and philosophy in spite of their widely divergent management styles and investment strategies. A W Jones, founder of the Jones Fund and arguably the original ‘Hedgie’, was himself a man of great distinction and taste. He mixed in progressive circles in company with famous artists, scientists and philosophers. In his youth, Jones even flirted with Marxism. As Carol Loomis indicated in her still-fresh expose of the industry, this extends through the industry history via family offices and high-net worth wealth management funds. And creative capital raising and employment very frequently benefits creative endeavours. For example, the great cellist, Gregor Piatigorsky was invested in a family fund.
Specifically, Bruce Kovner, a Harvard Phd dropout who admired classical music, later served as chairman of the Julliard School of Music. At Harvard, Kovner actually studied with Daniel Patrick Moynihan, the illustrious lawyer and Senator, subsequently retaining his fascination with politics. As his former manager expressed, ‘I really value richness in intellect’ and admired Kovner as a ‘Colourful figure in art and politics’. Soros’ abiding enthusiasm for philosophy and his beloved mentor, Karl Popper are also well known. Although he received mediocre grades at the
‘NERVELESS.. NO DISTRACTIONS’
Riding out economic vicissitudes, hedge funds hold collectively a substantial $trillion under management. Notwithstanding its size, more intriguing is the Industry’s diversity. As if a hundred flowers bloomed, new forms constantly proliferate: the long/short, event/’special situation’, arbitrage, leveraged, short selling, fund of funds models etc. (REFERENCE). In so doing, high-performing funds have consistently beaten the S&P 500 index and competing mutual funds for return on investment. FIGURES From Mallaby’s vignettes of leading industry figures, one senses that successful fund managers, ‘Combined a feel for the markets with Organizational talent’ (p 80).
The managers who last, it seems, cultivate a ‘healthy’ ego. In an otherwise rarefied world, Mallaby lists instances of gross extravagance and dirty dealing. However, what is remarkable is the seeming psychological stability, or ‘guts’ of successful fund managers and their consistency of principle. Through good times and bad, successful managers adhered to their investment axioms. In order to direct the flow of large portfolios, Hedge Funds are evidently required to hedge their risk. In consequence, it seems to me that leading fund managers such as Soros and Robertson were ‘ego-protective’: they were confident enough to bear market and personal strain (no pun on bear markets intended!), which strained their psychological and emotional well-being and their finances. At the same time, they were adaptable personalities, attuned to market dynamics as well as market dissonance. Hence, leading fund managers discarded mere mechanics in favour of the subtle psychology of successful investment and funds management. This reminded me of Charlie Munger’s paper, ‘The Psychology of Human Mis-judgment’. By the same token, managers managed their cognitive dissonance. As a result, they avoid the pitfalls of what I would term ‘corporate intertia’.
Through boom-bust sequences, successful funds appear to have an uncanny capacity to turn risk to good advantage – to ‘embrace’ risk for return. And the feature common to these successful funds is their aversion to standard operating procedure and establishment thinking. Reflecting what Wittgenstein would have styled a ‘family resemblance’, leading funds differentiate themselves from the wider investment universe by their entrepreneurial vision and ferocious drive. To my mind, this is largely traceable to leading fund manager’s personalities and their will to outperform. From the inception of the Industry in A W Jones’s long-short fund, the hedge funds industry has inspired financial innovation (for better or for worse), rewarded intelligence, encouraging risk-taking while simultaneously entrenching careful risk management. On the other hand, the disparate Hedge Fund universe is capable of absorbing insights from mathematicians such as Benoit Mandelbrot who challenged prevailing mutual fund trends and standard econometrics with his financial adaptation of Chaos Theory.
HEDGE FUND CONTRARIANISM: ‘CLASH OF THE FINANCIAL TITANS’
In the strangest coincidence, Mallaby opens his Chapter, ‘Top Cat’ with his depiction of a ‘Clash of the Financial Titans’. (Refer my previous post). Irony upon irony, the chapter opens with Buffet’s 1983 speech at
To quote from Jensen’s, ‘The Performance of Mutual Funds in the Period 1945-1964’:
‘All three models are based on the assumption (Sharpe, Treynor, Lintner) that (1) all investors are averse to risk, and are single period expected utility of terminal wealth maximizers, (2) all investors have identical decision horizons and homogeneous expectations regarding investment opportunities, (3) all investors are able to choose among portfolios solely on the basis of expected returns and variance of returns, (4) all
trans-actions costs and taxes are zero, and (5) all assets are infinitely divisible’.
Most spurious of all, however, is Jensen’s ‘additional assumption’ that the capital market is in equilibrium. Guided by Eugene Fama, it appears to me that Jensen similarly assumed “away” the inconvenient absolute returns achieved by the likes of the Quantum and Tiger funds and Berkshire Hathaway without allowing for ‘fat tail’ risk such as Black Monday, Japanese deflation, negotiation of the Plaza Accord, devaluation of the dollar, the Tesebono crisis and Britain’s forced withdrawal from the ERM. Whereas Mallaby demonstrates Efficient Market theory originated on sleepy university campuses, Hedge Funds proactively seek ‘institutional distortions and debate the great themes of exchange-rate fixity versus interest-rate flexibility so as to fine-tune their market postures. In brief, this requires Hedge Fund managers to look beyond ‘beta’ distortions to profits latent in changing socio-economic conditions. Even value investors stay on the wave..
CONTRARY TO EXPECTATIONS: FIGHTING MARKET INERTIA
Hence, Mallaby’s book emboldened me: Hedge Funds will succeed over the wreckage of the efficient market hypothesis. As a supreme irony, father of neo-classical economics, Paul Samuelson invested in Helmuth Weymar’s Commodities Corporation fund to achieve returns on the basis of trend forecasting – anathema to most efficient marketeers. With the very inefficiencies in the Rational Expectations/
‘.. the land of the fierce and barbarous Cyclopes, so called because of the large, round eye that glared from the centre of each forehead. They have lost the art of smithcraft known to their ancestors who worked for Zeus, and are now shepherds without laws, assemblies, ships, markets, or knowledge of agriculture; living sullenly apart from one another, in caverns hollowed from the rocky hills’.
If I might venture an overarching objective for the industry (as individualist as it is), I believe that Hedge Funds are well placed to attack waste and dissipation of assets and to reduce corporate inertia. Early in his book, Mallaby refers to the ‘glorious success’ of block trading, which empowered Hedge Fund managers to react to cross-over points in correlation of bank data, including bond spreads and home prices. A ‘vehicle for betting against conventional wisdom’, managers such as Marcus Steinhardt can trade on one-way bets against the Riyal, for example. Regardless of their macro or value posture, therefore, the top fund managers sloughed despair and sought to identify the main chance. A W Jones, repudiating the Dow Theory in ‘Fashions in Forecasting’, abandoned chart searching for the positive reinforcement of incentive to reward his best traders. Over time, factoring in explosive earnings, successful Hedge Fund managers have earned themselves, their limited partners and general investors a rather exclusive respect.
TAKING ON THE
Between
In researching this “new equilibrium”, I identified three ‘soft’ factors critical to successful investment: receptivity to ideas, ability to network and communication. I suppose one could argue that communication subsumes the other generic qualities. Nevertheless, I also believe that Mallaby’s text underscores the ‘scope of communication’ required by successful fund managers. This scope covers no less than the sum of what one might label the ‘cash flows’ from superior analytic ability, the ability to read and process data; the intuition and good sense to project trends or patterns and adjust strategy accordingly; and the personal ability to translate and discuss relevant positions and associated risks. And even though funds differ widely, in composition and outlook, I am taken by Julian Robertson of the Tiger Fund’s focus on ‘Long-Termism’. In brief, short-term logic becomes long-term insanity. Look beyond the moment!
And that final, elusive ability to get things done, superintendent upon all the other qualities.. Shall we call that Alpha??
What the ancients called a clever fighter is one who not only wins, but excels in winning with ease
(Sun Tzu, ‘The Art of War’)
THIS POST IS STILL UNDER CONSTRUCTION!
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