We last cited Consulta fund manager Matthew Ridley on the topic of hedge funds back in August 2004. It is time for some more name-dropping. Back in 2004 and to a lesser extent since, the existence of a supposed 'gold rush' into hedge funds has been the topic of fervid debate by the financial media. This time round, the spin is around apparent financial crisis.
There are, evidently, only two ways of covering hedge funds for most financial journalists. The first is to portray hedge fund managers as greedy hucksters smashing through a temporary regulatory 'window' to conduct their nefarious empire-building and busily stabbing traditional fund managers and the CEOs and shareholders of otherwise pristine companies with the shards. The second is to portray hedge fund managers as greedy hucksters cloned from the founders of Long Term Capital and plotting, by way of their own incompetence, to send the world financial system - and everyone's pensions - spiralling into oblivion. Both approaches seem to go down well with editors. On the 'gold rush' charge, Matthew Ridley made the following comments:
'..comparisons with the Internet boom can only be stretched so far. This is not a new area. Most hedge fund strategies have been widely practised for decades and seem likely to endure for many more. In the past they have been conducted more discreetly and it is the manner in which they are perceived that has changed. This is not an asset price bubble doomed to end in disaster. The massive inflows of capital into hedge funds will not force any asset valuations into the stratosphere or result in heady, self-feeding returns. If anything, capital inflows are likely to drive down rates of return for a period and dissuade other investors from participating. Hedge funds go through these periods of increasing and declining popularity but they tend to be self-correcting.'
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No less an august source than the Financial Times leader writer yesterday suggested that 'Markets have been reeling this week with rumours (about hedge funds)..'
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This must be some new usage of the word 'reeling' meaning 'to move within a fairly narrow range'. One understands the need for journalists to 'sex up' what might be otherwise relatively dull market conditions, but at times of intense market edginess, caution rather than melodrama is warranted. Broadsheet commentary that can affect the mood and resultant trading mentality of thousands of financial market participants and tens of thousands of investors (e.g. any commentary published within the Financial Times) is surely just as worthy of regulation as hedge funds themselves, which are in any case barred by the same regulators from any form of public self-promotion. To quote Matthew Ridley again,
'Sadly, the debate about hedge funds usually takes place at a low level, with battle lines that reflect the interest groups involved. Proponents of hedge funds are often biased and selective with their arguments. There is a great deal of money to be made in hedge funds, and their most fervent advocates tend to be the intermediaries, consultants and fund of funds managers who sell hedge fund products on to mainstream investors. The fiercest critics of hedge funds also have their judgement clouded by various factors:
* Many critics are ignorant about how hedge funds work.
* Conventional investors recognize that the success of hedge funds undermines their own competitive position.
* Some investors suffer from conservative, narrow-minded attitudes.
* Many fund managers are too cowardly to risk their careers by taking decisions that appear 'different', even when they believe those decisions would benefit their clients.
* Academics behave as though they feel threatened by hedge funds: they like to explain market phenomena with equations and many believe markets are efficient. Although we owe thanks to academics for disproving a number of myths about hedge funds, as a group they seem biased against the asset class.'
In the interests of clarity, and at risk of bludgeoning regular readers into a state of terminal somnolence, the hedge fund universe is extremely broad. Our interest in it is more focused: we wish to invest in low risk, absolute return vehicles (hedge funds or funds of hedge funds) in order to achieve a) portfolio diversification with a presumption of achieving absolute returns and b) a reduction in dependence upon equity and interest rate risk. Or to quote Matthew Ridley, yet again,
'The natural buyers of hedge funds are 'stay rich' rather than 'get rich' investors.'
Our need for diversification and risk reduction is admittedly less acute than for many of our competitors, in that our debt and equity portfolios are already managed with a low risk, absolute return objective.
Unfortunately, markets have now reached what looks like an inflection point in the global interest rate and credit market cycle, and the proverbial, though very well flagged (in the case of Ford and General Motors), has still hit the fan and recirculated itself as widely as possible. Cue the predictable media-fuelled inquisition debating the respective altitude of hedge fund risk, fees and probity - despite the fact that hedge funds do not even represent a single asset class but embrace a multitude of trading approaches, trading time horizons and appetites for risk, risk control discipline and leverage. The bottom line, however, for investors into what we would prefer to call the absolute return world was best expressed this week by 'The Shadow' of Hedgefund.net:
'(Our) mantra for several years now has been 'pedigree before strategy'. And by pedigree, please understand that I don't mean Exeter, Harvard, Goldman Sachs and Greenwich, Ct. I mean hard work, being hungry, unique talent and not being funded by your father in law.'
Rather than crow at the current misfortunes of hedge fund managers endeavouring to make sense of occasionally treacherous markets, conventional fund managers might pause to ask why just so much money has poured into the sector over the last few years. The answer is unlikely to please them.
Tim Price, Senior Investment StrategisAnsbacher & Co Ltd
