HF Industry Dying?

Spoke with 2 MDs at a top BB (GS/MS/JP) recently and both said that HFs have been very stagnant for the most part and it isn't as appealing as it once was (also have seen a lot of turnover in their group). They work in the AM arm and focused on hedge funds for decades so I feel they know what they're talking about. Curious what your thoughts are if it's just them being cynical or not. I'm interested in potentially going over to a credit hedge fund and working my way up.

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Comments (57)

  • Analyst 2 in IB - Ind
Aug 2, 2020 - 7:41pm

Thanks for your response. Saw a guy on another thread who's in his early-mid 30s and claims he has 6 million in deferred compensation (500k in investments and 1M in real estate). Does this sound legitimate? Is comp at a credit hedge fund similar to a traditional hedge fund? I'm not familiar with how comp is structured at HFs but would like to learn if you could shed light on this.

  • Investment Manager in HF - Other
Aug 2, 2020 - 9:00pm

I was the one who posted on the other thread. It is an outlier (not trying to be arrogant, I just have many friends in the industry). Most HFs don't make it, let alone people within a HF.

As another poster said, you can make good money early on (200-300k for a new hire) but it is high stress, extremely competitive, and most people don't have long careers there. A lot of people cap out at $500k if they are good but not great. If you have a stable fund that's a great income, but to get much higher than that, you start getting into the top 5-10% of "top" funds (I.e. funds with good economics, stable AUM, returns, client base, etc), it isn't that many people.

I got into a HF relatively early, so you have to understand I have 10 years of experience, most people who do IB then go to business school then PE. So by the time they are entering PE (~$300k) they are ~26 and usually with business school debt or depleted savings due to school.

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Aug 4, 2020 - 3:20am

It's an extreme outlier for prospective monkeys who do not have the intellect and work ethic to get that far.

It is not an extreme outlier for people who have spent a few years on the buyside with some type of decision making responsibility related to p&l. Basically everyone at a successful fund that has been around for 5+ years probably has averaged at least 2mm in comp a year ? So that gets you to those numbers pretty quickly, especially when he was saying that the 6mm is pre-tax.

Aug 2, 2020 - 8:10pm

Nobody can tell you what a "good number" to have saved up is. It is all relative to your compensation, lifestyle, and priorities.

You can live frugally and have 5 million saved up, or. maybe prioritize going on trips, traveling the world, eating out, etc and have 2.5 million saved up.

This is one of those questions that can't be answered by asking others.

Aug 2, 2020 - 8:53pm

Starting comp is something like 200k-300k. If you can keep a hf job, depending on how much stress you want 400k-500k is doable. To be clearing a mil consistently, you need to be extraordinarily good at your job and connected to some big PL stream in some way.

For every one person clearing a mil consistently for multiple years, there are probably 10 or 20 that enter with unrealistic expectations and end up leaving the industry to try something else (bschool, startups, etc). Thinking about what your strengths and weaknesses are and whether your skills/interests would be suited for a particular job are a much more useful mental exercise than dreaming about comp.

Aug 2, 2020 - 10:16pm

Well take a look at this forum. I think that the fact that there are kids laying out their path like the following "okay I'll do 2 years in Ib and then work at a hedge fund" is really telling of how mediocre and overcrowded the space has gotten. As if a 2 year stint in IB is all that warrants a career as a great investor. As if it's somewhere everybody lands 'just because' but they don't know you have to fucking preform.
Was it ever really the promise land though ? A serious question for any more experienced monkeys. I think the number of funds that can outperform really hasn't changed, it's just that the space became too crowded (thus, proportion of good:bad funds has shrunk exponentially). I don't think the hedge fund space was ever meant for this many players, and the number of players in the industry will revert back to a much smaller number as a result. The vast majority of hedge funds we see now, in my opinion, are simply keeping the machine well oiled, so to speak. Aka keeping markets efficient. The funds that are truly good will always squeeze out alpha.

Aug 3, 2020 - 10:08am

Its a tougher environment for anyone who isn't generating real alpha. I think the most accurate way to look at it, is that its moving to more of a barbell shape distribution. On one side you have real alpha generators (high fees for real outperformance) and on the other side you have index funds (zero outperformance and almost zero fees).

Previously, there was more of a middle . . lot of mutual funds charging medium fees for minimal alpha, or hedge funds that were claiming outperformance but not delivering. As allocators have gotten smarter, the middle has hollowed out.

For an example, look at smart beta. 3-5 years ago, smart beta was the hottest thing in the industry and the ultimate "middle" product. Charge people 30 bps for the hope of slightly beating the index. Now people are starting to call bullshit on it. Still very much around but AUM is down at places like DFA and AQR because allocators have become more sophisticated and want to know why these strategies are likely to deliver alpha in the future, which they aren't.

I know smart beta gets outside HFs but wanted to use it as a clean concept to illustrate the barbell.

I think the 2 MD's may be technically right, but its the wrong attitude to have. If you believe with high conviction you can deliver outperformance, you should be in the industry. And if you don't believe that, you shouldn't.

Aug 5, 2020 - 9:10am

They aren't being cynical. We can try to quantitatively examine this by looking at the net flow of capital and fund launches vs shutdowns in recent years. Many prime brokers publish such research, and these figures regularly make their way to Bloomberg and WSJ so you can simply google them and see for yourself. Both metrics support their pessimism.

However, you should also put what they say against the larger context. This industry like many others is cyclical in nature. The years immediately after the GFC was the rising phase, and the last few years happened to be the down part of the cycle. This phase might persist or it may turn soon, nobody knows.

  • Quant in HF - Other
Aug 6, 2020 - 3:11pm

Very uninformed comment. Jane St and Citadel (hedge fund) are in completely different busineses. Better to compare Citadel Securities and JS.

500K out of school is not recurrent, it usually comes with 150-200 sign on. After that it is really 300-350K. And in those places there is no "unlimited" upside -- people are often capped at 700K-1M.

Aug 6, 2020 - 9:01pm

You realize that the quality of life does not measurably improve beyond 400k/year (per an AmJournal of Psych paper). Even if you are capped at 700k/year is that really so bad? The primary attraction of working in HF at least in my opinion is that you get to experience the best lifestyle straight out of college, you immediately enter the 1% without having to work too much (all the work happens during undergrad). Again you start at the top when it comes to happiness/fulfillment. Does anyone actually want unlimited gains? There is a point where you have too much money, so much so that you become famous and begin to compromise your privacy.
FYI isn't JS = Jane Street and Citadel = Citadel Securities. They are the same right? Or is there some other lesser known fund called "Citadel".

  • Investment Manager in HF - Other
Aug 6, 2020 - 9:39pm

Citadel has citadel securities and citadel the hedge fund. They operate differently, citadel securities is a market maker (so more similar to Jane Street) and "citadel" is the hedge fund.

As for the $$, I sort of agree, there is a lot of stress associated with more money (at least usually these jobs are more demanding), but the freedom the money gives you is a big plus. Forget about the ability to spend it (which you can always keep up with the rising income), the opportunity to retire at 40 gives you a lot of freedom to pursue what you want and remove stress.

  • Quant in HF - Other
Aug 7, 2020 - 4:09am

> The primary attraction of working in HF at least in my opinion is that you get to experience the best lifestyle straight out of college, you immediately enter the 1% without having to work too much (all the work happens during undergrad).

Being in the top 1% means nothing. Especially when your boss earns 10x your wage and his boss is Ken who earns 10000X. In London top 1% is like 150K GBP? If you ever been in London you know how little it is. Especially if you want to live a life rather than frugally save or have a family. Best lifestyle is questionable. Top money are being paid in top firms, but they also want something back from you. And places like Citadel want everything from you. If you know you know.

> Does anyone actually want unlimited gains? There is a point where you have too much money, so much so that you become famous and begin to compromise your privacy.

So naive. The chance to earn the amount of money which makes you famous is literally o(1). On the other hand, earning couple of mills per year is far from being famous, but gives a lot of perks which are impossible to have at 500K.

> FYI isn't JS = Jane Street and Citadel = Citadel Securities. They are the same right? Or is there some other lesser known fund called "Citadel".

There is market making business which is called Citadel Securities. There is a hedge fund business which is Citadel. Both belong to Ken Griffin, so basically the same group of companies.

Aug 12, 2020 - 2:08am

Alright let's address these claims one by one.

  1. You state that 150k /year is shit. I agree but most hedge funds pay 300-400k / year starting. The compensation package is generally split up like 150 base 150 signing 100-150 bonus. So here's the thing, that psych paper I mentioned above empirically proves (this means it's supported by multiple sources of data and expert opinion) that quality of life does not improve beyond 400k.
    This leads me to your second point about the perks of making 500k vs 1M (empirically there is no difference) but for the sake of exploration let's assume there is.

  2. In New York City, one of the most expensive cities on the planet your expenses would look something like this:
    A multimillion dollar apartment near Hudson yards rents for about 5k / year making your net living expense 60k. Let's say you need a sports car, even though it's fucking nyc, that's like another 1.5k /month for a porsche this includes gas so 18k /year add on a designer wardrobe (a good suit is about 5k let's say you need 10 suits so 50k, add on 3k for belts shoes and socks another 3k in ties and maybe another 5k for the two to three casual looks you have when you aren't working) so your clothing budget annually, even though a good suit will last you more than a year, is like 61k. The only things left are vacations and food. If you would like to continually consume your vegan low fat organic non gmo ethically harvested bullshit from Whole Foods you will spend roughly 300/week or 1200 per month so 14.5k per year (even though most hedge funds provide free fucking food) a solid two weeks of international travel at five star hotels with all the ridiculous excursions included will cost like 15k for one person at most. Most hedge funds provide gym membership and health insurance so all in all your total expenses come to a whopping $168,500 not even close to your 400k / year salary. Now I know what you are thinking what about TAXES? Well you can significantly reduce those by registering an LLC or S-corporation getting yourself hired by your employer as an LLC or S-Corp (this means you pay the business tax rate instead of the much higher income tax rate and it's completely legal (I'm not a lawyer though so take this advice at your own risk) you can even write off your gas expenses). You will still be able to save by investing your signing bonus. Your salary will go up continuously at any HF provided you don't suck, until you hit a ceiling that is.

In short any higher salary only leads to marginal benefits. A slightly better apartment (because 3000 square feet in NYC isn't good enough for one person) a slightly better car (Because a Ferrari won't depreciate in value the minute you drive it off the lot but Porsche's however...) a slightly better wardrobe (because Tom Ford, Brioni, and Brunello Cucinelli are for peasants) and slightly better food (because you absolutely have the time to enjoy a 17 course French/molecular gastronomy dining experience every fucking night) and you definitely need more than 15k for two weeks of vacation (because Bora Bora, St. Barthelemy, Turks and Caicos, and The Seychelles aren't good enough).

  • Quant in HF - Other
Aug 12, 2020 - 3:27am

I said that 150K GBP before tax is shit in London (after tax is like 60 percent or so of it).
400K$ after tax is good money in my standards and I think this is roughly a ceiling for "regular" employee at hedge fund (which equates to like 700-800K per year).

Aug 12, 2020 - 6:12pm

Explain how using an LLC or S-corporation will result in an optimal tax outcome for the individual once the individual accesses the cash. First off, an S-corporation is necessarily a flow-through entity, so the income would just flow through to the individual and be taxed at the individual's marginal rate (assuming all the other requirements for using an S-corporation are met, which they will likely not). Second, in the case of an LLC, even if the LLC elects to be taxed as a corporation, what happens then? The LLC pays the 21% tax rate but then needs to make distributions to the individual, which will be taxed again at the individual's level at potentially the highest marginal tax rate (depending if qualified/non-qualified, the value of distributions made, etc.). You could potentially make the case that having the LLC be the payor of all the individual's expenses (or at least mortgage/rent, car payments, so on) could make sense, as then the LLC with a corporate election would pay 21% on a now-lower level of income, assuming all these expenses are tax-deductible (which they are not) and that the remainder is then re-invested (so, in essence, the individual would receive no or de minimis income and just live vicariously through the LLC. However, this is not possible as a hedge fund CANNOT HIRE A FUCKING LLC OR S-CORPORATION AS AN EMPLOYEE. Such a proposition is a borderline retarded thing to even intuit in the first place. And, yes, I am a lawyer (albeit not a US lawyer, though I know enough US tax law to know this much). Also, if you were thinking of the new sec 199A business deduction this wouldn't apply as the income earned by the "employed" LLC/S-corp (I laughed just typing) would not be eligible business income.

Jeez, didn't you have to at least purportedly be solid in logic and basic conceptual math to get charged 2% to breathe with OPM (other peep's money)? Makes me aggravated when the Masters of the Universe bitch about lawyers. I guess it makes sense, though, why Uncle Leon got his tax advice from Jeffrey Epstein.

Aug 13, 2020 - 2:18am

Please google: Tax Cuts and Jobs Act.

President Trump's tax plan--otherwise known as the Tax Cuts and Jobs Act--was signed into law on Dec. 22, 2017, emphasizing cutting the corporate tax rate and simplifying the individual income tax system. Whether a hugely profitable multinational corporation or a tiny sole proprietorship, every business that counts as a C corporation is now taxed at a flat rate of 21%, down from the original 35%.

One commonly-voiced concern is that this new system creates a tax loophole encouraging individuals to register as pass-through entities such as limited liability companies (LLCs) and S Corporations so that their business income can be taxed based on their individual tax rate. This means that the LLC tax rate varies.

Meanwhile, because owners of LLC are able to deduct up to 20% of their business income before their tax rate is calculated, it can be highly beneficial to file as an LLC based on an individual's own personal income tax rate. Ultimately, this could range from 10% to 37% based on each individual's unique filing status and income level.

Small operations that have no plan of raising money from public shareholders but want a higher level of legal and financial protection for their personal assets often form LLCs. All 50 states allow LLCs to consist of just one person. Almost any line of business may be incorporated as an LLC except banking, trust, and insurance businesses. Some states impose additional restrictions, such as California's prohibition against architects, licensed healthcare workers, and accountants registering as LLCs.

This is straight from investopedia. Next time please use google, and be aware of the fact that your status as some form of lawyer does not make you an expert on us tax law.

Aug 13, 2020 - 11:56am

What you posted only reinforces what I said.; do you not get that registering an LLC does not mean having your employer then employ the LLC you registered? Think before you speak. Sure, you can always register an LLC, but then even if your hedge fund employer pays the LLC as a service provider instead of you as an employee this still would NOT be qualified income under sec 199A to qualify for the business deduction. It's called applying law to facts.

Aug 13, 2020 - 7:10pm

The fund hires you as a contractor/ contracted firm not individual. You then write off all personal expenses as business expenses while declaring your income to be 0. This keeps your taxes at the business rate. You can do this per the policy cited above. You don't need to qualify for the business deduction if you have no income.

Aug 13, 2020 - 8:33pm

Not true. What is the causality between declaring your income to be zero and then qualifying for the business rate (and explain what you mean by business rate, as there is not a discrete "business" rate but rather a C-corporation income tax rate). You really do seem to be getting your tax info from Jeffrey Epstein. You realize that the IRS will easily audit you for writing off all your personal expenses as business expenses. That's tax 101. The more you comment the more I think you really are living in bizarro world and are totally confused.

Aug 14, 2020 - 12:38am

I'm not the one who correlated the business rate to declaring your income. I'm not very cogent in my responses please allow me to be as clear as possible.

Simply put:
A company contracts an LLC to complete some task for some period of time
You happen to be the sole member of the llc
Your llc recieves a fee for services rendered
You are unemployed while your llc is simply an entity earning money from some fund
You being the sole owner of said llc spend any and all profits however you see fit (on yourself)
You declare on your taxes that you are unemployed and therefore pay nothing.
The llc is taxed at the business rate.

Do you see how this is possible? Because I'm literally outlining the strategy advocated for by an investopedia article about Trump's tax plan. I did not write this article. I am not the one who came up with this strategy. I am only claiming that it exists and comes from a credible source.

Aug 6, 2020 - 9:36pm

Hedge funds are a niche, and always will be, the opportunities are too small for institutions to allocate 50% of their capital. However, if you can generate alpha, few do, you'll be able to continue charging extreme fees.

What your seeing today is a consolidation capital moving away from those without alpha.

Aug 6, 2020 - 11:25pm

Going back to the OP... I'm not sure the HF industry is dying, but the easy money has mostly been made. The industry is crowded (too crowded, I would say), fees (management and performance) are generally coming down, and its getting harder and harder to start your own shop. In short, like someone else above has probably said, the industry is evolving. It's no longer that "sexy, edgy" industry where someone can rock up to a fund and make a ton of money early on. Investors (LPs) can be far more picky and demanding, whether its information requests, certain operational procedures/standards, returns targets or just plain old fee levels.

Generating "alpha" whatever that really means is getting harder and harder and at least from what I see, life-cycles of people/funds are getting shorter and shorter. The big funds are hoovering up most of the talent and have the best resources. Then there are some great niche-y places that do well but can't scale. Then there is everyone else....

I used to do Asia-Pacific PE (kind of like FoF). Now I do something else but happy to try and answer questions on that stuff.
  • 3
Aug 7, 2020 - 1:03pm
Jamoldo:

Then there are some great niche-y places that do well but can't scale. Then there is everyone else....

Correct me if I'm wrong, but isn't that the point of a hedge fund? A small, nimble investment vehicle with a certain capacity constraint due to a niche strategy? Is that not where the money is (for somebody who wants to work at a hedge fund)? I've haven't heard of any behemoth fund that preforms exceptionally well. Sure you have the quant-based MMs, but those are all running different strategies, so I'd be hardpressed to call them A fund.

Aug 7, 2020 - 1:58pm

I must have missed where in the definition of HF it says they must be "small". Chase Coleman at Tiger Global must've also missed it. Dont think Soros kept his bets small either back in the 80s-90s..

If you find big opportunities where you can deploy billions of dollars, why would you limit yourself to only tens of millions?

Most Helpful
Aug 9, 2020 - 5:35pm

My humble opinion having spent ~4 years in the industry...

  • The rise of passive investing / ETFs has and will continue to be a headwind. Allocators and investors will not be content with average performance when it can be replicated at a lower cost.

  • The low interest rate environment and until recently stable economy has been a great tailwind for the private equity industry. On paper, PE funds have been an attractive alternative to hedge funds and have delivered attractive risk adjusted returns. The competition from PE over the past decade is far greater vs the 90s / 00s.

  • During the 2000s hedge funds did have a good run and delivered attractive returns, partially driven by the fact that value strategies worked well (and I believe higher short rebates which aided returns). Post 2008, market leadership has been concentrated to a subset of tech names, volatility (until recently) has remained low, and traditional value investing has underperformed.

The combination of these factors has led to a relative outflow of capital from hedge funds. Simply put, new competition, high fees charged by hedge funds, and lackluster performance have greatly hurt the industry. Hedge funds have not replicated performance delivered in the 2000's and allocators / investors have put average hedge funds on a short leash and have put downward pressure on fees.

That said, if you're smart and can deliver alpha, investors will still allow you to charge hefty fees for outperformance and there are still a subset of funds which continue to deliver. The market will always reward and allocate capital to talented investors. If you believe you can deliver alpha there is room for you in the industry and you will likely succeed.

In addition, it's not theoretically possible to have a market completely filled with passive ETF ownership - there always needs to be active investors in the market taking advantage of price dislocations. Though if you can't deliver performance, good luck charging significant fees.

While the outlook may seem bearish, there are a few reasons why hedge funds can come back in favor (though gone are the days of unestablished funds charging 2 and 20 on new money)....

  • A rising rate / inflationary environment and higher market volatility should in theory make hedge funds more attractive and increase their probability of achieving outperformance. Private equity vehicles also become less attractive given higher costs of financing debt.

  • If we see a paradigm shift from limited market leadership (ie FAANG and growth tech), to value based strategies outperforming again - this would be beneficial to hedge funds.

  • I also think the PE universe is too crowded with small / unproven funds launched in the past decade. A rising rate environment / a recession such as this one will test their skill. Assuming we see a wave of portfolio company failures, investors will not enjoy the long workout process and come to appreciate liquidity available in the public markets.

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