Hello,
I would like to discuss the interest of hedge fund investing with you guys. I noticed that an overwhelming majority of hedge funds were losers (not able to beat their benchmark), and so wondered why would some investors put them in their portfolios despite the incredibly expensive fees : If fees + low liquidity were accounted for I'm not sure we could count on our fingers how many hedge funds can beat their benchmark. Some people say hedge funds are a good investment as a hedge for downside risk because of their low volatility and reputation for good performance during bear markets, however can't we just short the index instead?
I'm not trying to taunt hedge fund people, I'm just wondering and figured some of you could give me an answer I would be satisfied with.
Thanks!
I don't think it is correct that the overwhelming majority of hedge funds were unable to beat their benchmarks. It really depends on the fund's liquidity and exposure to the market. If a hedge fund is very liquid and takes 0 or close to 0 beta exposure (i.e. market neutral L/S equity funds) the benchmark would be 3 month treasury bonds. In the recent past, 3 month treasury bills yield something like 1-2%? So market neutral funds that beat that after fees are beating their benchmark.
Also there are lots of hedge funds out there. Most are indeed very crappy/small. If you weight the returns of hedge funds by their assets under management (similar to weighting stocks in an index by their market cap) hedge funds definitely outperform.
Biggest weights in such an index would be to Bridgewater, Renaissance, Citadel, Millennium, Two Sigma, Point72, Man Group, DE Shaw, and others. Even after accounting for survivorship bias, an index holding assets in these hedge funds would have substantially outperformed almost any appropriate benchmark.
I saw this in a Forbes article (to explain my statement): "As I digested this I reflected on a hedge fund survey published this January in FTfm, which screened over 900 hedge funds managing assets from $100m to $1bn through data provided by BarclayHedge. The performance table at the foot of the survey revealed that just one of the top five hedge funds profiled outperformed the S&P 500 total return index over a one-year period."
But do you think the biggest funds can compete with the S&P500 if the fees are taken into account? Even with the most basic 2 & 20% fees: for a hundred dollars invested, if your hedge fund returns 20% you only get $114 (so you really get 14%). And we know that the biggest fungs probably ask way more.
The benchmark for the vast majority of hedge funds is not the S&P 500. Do not compare hedge fund performance to SP500. They are two different asset classes. It's like asking why you would ever buy bonds or real estate instead of stocks.
Hedge funds are meant to hedge; that is generating returns in any market conditions (that is, they seek absolute return, not relative return -return compared to a benchmark-). The idea is that they have to overperform the markets in bearish periods and do well in bullish periods. Do they do it?
By far yes, they have hugely overperformed the markets in bearish periods. What is the problem? When you have the FED printing money like if it was the end of the world for over a decade and you have the largest bullish period in history, then if you are conceived to do better in bearish periods, then you have a problem.