Do you think many funds have a repeatable value adding process?

(Probably ignoring any market neutral outfits for this, my intuition tells me any returns they generate are much more statistically significant, but could be wrong)

Consider John Paulson...he and his team made a fantastic set of discoveries that led to their trading in the run up to the crisis, but AFAIK his performance hasn't been particularly impressive since. 

Back then, they happened to be looking in the right place. Is it really possible to distribute your information processing resources (analysts) in such a manner that you consistently chance upon the right place?

There are definitely firms which have a strong track record over a decent period of time, but are there really more than you'd expect from just survivorship bias? Given the thousands of  funds that have been started over the decades you'd surely expect some to do very well over time purely by chance even if all of them were constructing portfolios completely randomly.

I'm interested in the industry but also quite skeptical, hoping any professionals could shed some light. (Sorry about another student-y question)

Hedge Fund Interview Course

  • 814 questions across 165 hedge funds. Crowdsourced from over 500,000 members.
  • 11 Detailed Sample Pitches and 10+ hours of video.
  • Trusted by over 1,000 aspiring hedge fund professionals just like you.

Comments (29)

Apr 27, 2021 - 10:56am

No, very few firms have a repeatable value adding process. An exception would be the multi manager places, there is a reason those type of funds are the only ones seeing capital inflows. However, 80% of the people who get a job there do not have a consistent value adding process. This is because 80% of them are pretty much just taking educated guesses with their complex financial models and have the misconception that more work = better performance .

Most Helpful
  • Investment Analyst in HF - EquityHedge
Apr 27, 2021 - 11:20am

Can u pls stop trying to act like you understand what people actually do at any of these funds, you are in high school for gods sake...

Apr 27, 2021 - 12:07pm

The problem with asking a forum like this is that many people will answer with emotional responses trying to justify their inflated paychecks.

The academic data and research is out there and well-defined. Read it and make your own conclusion.

Learn More

300+ video lessons across 6 modeling courses taught by elite practitioners at the top investment banks and private equity funds -- Excel Modeling -- Financial Statement Modeling -- M&A Modeling -- LBO Modeling -- DCF and Valuation Modeling -- ALL INCLUDED + 2 Huge Bonuses.

Learn more
  • Associate 1 in IB - Ind
Apr 27, 2021 - 2:19pm

It's an industry of cognitive dissonance (see the post above this).  No, most/all funds do not have a repeatable process and mean reversion is very much a thing.

source: worked as an allocator and saw hundreds of these funds

Apr 28, 2021 - 3:08am

Given that you worked as an allocators and you think most places aren't going to consistently add value, why do institutions give money to active management? Is there a belief that if they give money to a bunch of managers they can get some uncorrelated returns? From what I can tell it seems like trying to pick managers isn't that different to trying to pick stocks.

  • Associate 1 in IB - Ind
Apr 28, 2021 - 3:21am

My comment on cognitive dissonance and mean reversion extends to LPs/institutions also.  Actively destroying value and returns are terrible in general.  They'll justify it by saying they're finding uncorrelated return streams, purposely keeping risk low, and that the proper benchmark is a 60/40 or 70/30 (which is probably close to being true actually), but news flash - only the absolute best performers (I don't have the actual data sitting in front of me right now but I'd guess the top 5%) are outperforming a 70/30 or even a 60/40 and they aren't doing it consistently and definitely not at a higher rate than chance.  There was a big article on this a couple years back that you can look up.  It feels better to pay a person to go out and invest in these big time PE and hedge fund strategies but you're getting murdered on fees and will never outperform a 70/30 with any type of consistency.  Whole industry is a sham IMO.  Complete sales pitch and the numbers don't back it up.  

May 1, 2021 - 3:48am

I sort of agree but to add nuance.  A "process" typically connotes a recipe, a step-by-step process that outperforms.  Allocators NEED to hear this story.  Even the rare allocator that loves you has that small doubt in the back of his mind.  So any really good manager has his story pat.

But really there is no "process" in discretionary investing.  You spend a number of years understanding everything about everything and apply pattern recognition and emotional modulation.  You (the PM) are the repeatable process, just like the head coach is the repeatable process.

Apr 27, 2021 - 5:05pm

A couple of thoughts. On the discretionary side (restricted to high turnover portfolios/short time horizon) I have observed that the top PMs in terms of reputation and tenure consistently make big bucks & good sharpe, but most are mediocre. At the analyst level I have seen both incredible talent and huge idiots. 

If you ask Ken Griffin to choose his 10 best PMs and compared their out-of-sample results to 10 random new PMs at Citadel then I would be willing to bet quite a lot that the former will get better returns (esp if each gets an equal allocation of risk). 

On the quant side, esp for higher frequencies it's often a battle against trading costs, which also scale superlinearly. If costs were 0, then many many would print money. This is not in-and-of-itself a disproof of EMH of course. But perhaps a common perception is that quant signals are statistically indistinguishable from 0 (which would be true under random walks). This is not generally the case, but instead the hard part is making sure they're stronger than expected execution costs (which are big when you have billions of $). I don't know if this framing helps at all but it's the way I think about it.

Start Discussion

Total Avg Compensation

May 2021 Hedge Fund

  • Vice President (18) $520
  • Director/MD (10) $359
  • NA (4) $325
  • Portfolio Manager (7) $297
  • Manager (4) $282
  • 3rd+ Year Associate (18) $269
  • 2nd Year Associate (26) $251
  • Engineer/Quant (50) $237
  • 1st Year Associate (63) $188
  • Analysts (181) $168
  • Intern/Summer Associate (15) $125
  • Junior Trader (5) $102
  • Intern/Summer Analyst (204) $82