Sunday, July 18, 2010

My own opinion on funds

The "bell curve"—the probability den...Image via Wikipedia
[QUOTE=sXXX]whoa.. .. i read ur blog too... i learnt in sch from my lecturers that only extremely sophiscated investors can invest in hedge funds... as the fund managers are really tip top in the investment arena and hedge funds will almost definitely provide absolute returns year on year... so from ur experience, not that true after all, rite?[/QUOTE]

Why hedge funds have so much allure to people? :)

Most get-rich course will tell you that they invest in hedge funds and get absolute returns so that the trainer built their credibility with you. You think they are very sophiscated investors since they have access to things you cannot invest. Human nature.. When you cannot have it, you will yearn for it.

Most rich people want to invest in hedge funds coz it sounds good to tell people I put my money in hedge funds or private funds. Again, coz most retail investors cannot do that, they think it's good.

Then ..there's the people who have not invest in hedge funds or private funds but are educated or trained by their managers to tell you hedge funds returns are good etc etc. So when your lecturer tell you that, maybe he is just reading it from the literature or he could have really good access? I don't know. You have to ask him.

Ok, on to the hedge funds...
Absolute returns ? That is the allure of hedge funds, they promised absolute returns 'coz they explained they can short market/securities or long market or can hedge etc etc. But go do some research and see whether they really have absolute returns every year. Or why not you look at a chart of a hedge fund and see if you had invested in a high point, how long would you break even. Again, I think entry price is very important to your investing success. Then look at the chart of some blue-chips stocks and see whether you can get the break-even point earlier or later than the hedge funds. If both are around the same break-even period, are the hedge fund managers really giving you the "Alpha" you are paying 2/20(2% mgmt, 20% profit sharing) for?

I am not saying there is no such hedge funds around, but really, like all things, the bell curve in statistics applies. There are really bad hedge fund managers and there are really in-between managers and there will be very good hedge fund managers. You need to go find out the cream of the crop where you can get your money's worth. If not, why are you paying so much fees for? I think the rest you can do better by investing in your own stock portfolio which generates income too :)

A few good ones I know of are mainly in the US. The John Paulson funds, The Seth Klarman fund, The Bruce Berkowitz fund. But most are already closed and only open to institutional investors, the family offices and the super rich. It's not for the peasants millionaires, myself included :p

But if you die die want to be in a hedge fund, there are local and overseas offerings that goes for a lot less as they are just starting up or could be they are lousy as hell. Example, in singapore, you can start a hedge fund but can only accept money from max of 30 accreditated investors and most probably you can get away with even a $150k investment(or even less since the pre-requsite is accreditated investors but nothing is said of the investment amount) for each investor for a $4.5mil seed capital. I manage more than that and I can call myself a hedge fund manager if I wanted to :)

For the not so rich, there are funds of hedge funds that you can invest in as long as you are an accreditated investor. The rules for accreditated investor again differs from country to country. For example, in HK, retail investors can invest in fund of hedge funds for a minimum starting of USD$10,000. In singapore, I believe those financial planners can help you get started in a fund of hedge funds for SGD$20,000. But fund of hedge funds are not so good as it adds another additional layer of charges on top. This is because the fund of hedge funds(fof) managers will invest into individual hedge funds and his value-add is he is adept at picking the performing hedge funds (or so they want to lead you to believe:).

Then there's the managed funds from private banks. That one goes for a lot more and minimum entry is USD$250K per fund. Again, I have shared my experience of that. I am sure there are good funds out there. I just don't know about it. So I can only say probably the bell curve applies here as with in everything in life. :)

Private equity funds? For the private banks, you can go in for USD$500K with liquidity only when certain events occurred or min. with 5yrs holding period or . That's what I've been told and I was not interested since it is really too illiquid for my liking. This one probably could yield good results for those very high networth individuals. I'm not one of them.

Or you can be involved in those investors grouping together to buy a smallish company and they say they are doing private equity deals (which is true no doubt). I've come across people boasting of being involved in private equity investments and the company they acquired is less <$200k. So if got 5 investor, each one pay only $50k. But of course, does not mean the returns will be lousy. It could be a good deal if you can find $200k business that generates income(not revenue) of $100k per year.

Ok, to conclude my off the cuff entry, I would say not all funds are bad, not all deals are bad. If you do find one good hedge fund, congrats to you and do let me know :) It's with everything in life that bell curve applies and due diligence and critical thinking is needed in every investment you do. Just look at how many people sign up for those "millionaire" workshops or investments scheme that promised you guaranteed returns and yet people are signing up blindly to find out later on they are all duds.

Disclaimer : One man's meat is another man's poison. Just like property investing, some say mass market is good, some say prime is the only way to go, some say buy 999/Freehold only, others say 99LH near MRT is good.

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1 comment:

hyom said...

Hi Wealth Journey,

I stumbled onto your blog from another blog. I read a substantial portion of your blog at one go. Thank you very much for sharing your wide experiences with the various funds and investing knowledge in general.

I would like to add my own opinions about funds. I started out in the world of investing about 7 years ago. Initially, I started off with fund managers because I thought it was wise to get a professional to manage my money rather than an amateur like myself. Being an engineer with no formal financial training, I thought I had better steer clear of the financial markets because I have relatives who got seriously burned. Later, the more I knew about the investing business, the more I steered clear of them. I have nothing against fund managers. I sincerely believe the average IQ of mutual fund managers to be higher than mine and the bottom 5% of hedge fund managers to be much higher than mine. I also do not think they are a particularly untrustworthy group of people. I think they are just normal people who will behave badly towards their clients if the system rewards them for doing so.

What makes me uncomfortable is that the nature of the money management business is rife with conflicts of interests that put their clients at a disadvantage.

Firstly, the annual fund management fees provide an incentive to grow the size of their asset under management. It is easier to make an investment returns of 30% on SGD200k than SGD200million. The universe of applicable investment ideas diminishes as the portfolio size grows. Liquidity becomes a greater problem. It is more expensive to get out when one makes a mistake. A growing portfolio size is sure to dampen investment returns.

Secondly, career risk distorts fund managers' investing decisions. It makes sense for fund managers to follow the crowd to reduce career risk. If they follow the crowd and got wrong, clients are more forgivable. If they go against the crowd and got wrong, they may lose their jobs. During the crazy dot-com bubble, several fund managers of the Graham-and-Dodd school of value investing lost their jobs. If I were a fund manager, I will not invest the same way as I will with my own money. Even hedge fund managers whose stated goal is absolute returns may unconsciously strive for relative returns because of the career risk of disagreeing with the crowd. This could explain why clients who were promised alpha (outperformance over benchmark) ended up with beta (correlation with benchmark). So, I do agree with you that ETFs is the best avenue for non-DIY investors. Why pay so much for hedge fund managers if they end up giving beta? One might as well buy cheap ETFs correlated with indices which outperformed most fund managers anyway.

I think the best fund managers are still the hedge fund managers (Seth Klarman, George Soros ...). Unfortunately, being an engineer with depreciating programming skills, I do not see much chance of being their client one day. However, I hope you have better luck with them in future. Or you can always rely on yourself. You seem quite good yourself based on what I read on your blog. Once again, thanks for sharing.