Hedge Funds

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Hedge Funds

  1. 1. mruszczy: NEED LOGOS!! ALTERNATIVE ASSET MANAGEMENT – HEDGE FUNDS Western Investment Club – Created Matt Hall and Aaron Posluns, 5 March 2008
  2. 2. What is a Hedge Fund? <ul><li>Aggressively managed portfolio </li></ul><ul><li>Uses advanced trading strategies involving leverage, long/short positions & derivatives </li></ul><ul><li>Goal - To generate objectively high returns (in an absolute sense or over a specified market benchmark) </li></ul>
  3. 3. History of Hedge Funds <ul><li>Term “hedge fund” dates back to a portfolio managed by Alfred Winslow Jones in 1949 </li></ul><ul><li>Term coined because of Jones’ short positions used to hedge market risk </li></ul><ul><li>Jones is credited with the name but they have been in operation for a long time(aka &quot;investment pools&quot;, &quot;investment syndicates&quot;, &quot;investment partnerships&quot; or &quot;opportunity funds”) </li></ul>
  4. 4. Fee Structure <ul><li>Due to demand for superior returns, HF’s can charge high fees for their services </li></ul><ul><li>Typical 2/20 – 2% annual fee for assets under management (“keeps the lights on”) and 20% of returns </li></ul><ul><li>HF Governance - how does this affect incentives? </li></ul><ul><ul><ul><ul><li>See Amaranth Advisors </li></ul></ul></ul></ul>
  5. 5. Some Types of Funds <ul><li>Value (i..e, Event-Driven) </li></ul><ul><li>Quant Funds </li></ul><ul><li>Activist Funds </li></ul><ul><li>Long-Short (i.e., 130/30) </li></ul>
  6. 6. Famous Funds <ul><li>Long Term Capital Management (Multi-Strategy) </li></ul><ul><li>Amaranth Advisors (Multi-Strategy) </li></ul><ul><li>Renaissance Technologies Corp. (Quant) </li></ul><ul><li>The Children’s Investment Fund (Activist) </li></ul><ul><li>Tudor Investment Corp. (Global Macro) </li></ul><ul><li>ESL Investments (Value) </li></ul><ul><li>SAC Capital Advisers (Multi-Strategy) </li></ul><ul><li>Pirate Capital LLC (Value/Event) </li></ul>
  7. 7. When Genius Failed – LTCM <ul><li>Long-Term Capital Management - founded in 1994 by former Salomon Bros. Fixed Income trader John Meriwether ( Liar’s Poker ) & included Nobel Prize winners Robert C. Merton & Myron Scholes </li></ul><ul><li>Core strategy – fixed income arbitrage </li></ul><ul><li>$4 b fund heavily reliant on leverage (at one point 100x) – risky! </li></ul><ul><li>Arb strategy likened to “picking up pennies in front of a steam-roller” </li></ul>
  8. 8. When Genius Failed (cont’d) <ul><li>Impressive returns (>40%) led to increased investment in the fund - some money given back, some diverted to new strategies (i.e., merger arb) </li></ul><ul><li>1998 Russian Financial Crisis – bond spreads diverged, fund lost most of its equity, magnifying existing leverage </li></ul><ul><li>Banks serving fund forced to bail LTCM out in fall 1998 – fund unwound entirely by 2000 </li></ul><ul><li>Positions were objectively correct but market overreacted </li></ul>
  9. 9. Amaranth Advisors <ul><li>Fund managed ~ $9 b: profitable energy trading desk run by Canadian Brian Hunter </li></ul><ul><li>Long/short position in nat gas futures – betting on nat gas prices (Katerina) </li></ul><ul><li>Also relied on high leverage(8x) </li></ul><ul><li>Fund lost >65% of its $9 b under management in approx. a week </li></ul>
  10. 10. Renaissance Technologies <ul><li>Management company includes multiple quant funds, most notably $5 b Medallion Fund (~35% annualized returns & 5/44 fee structure) </li></ul><ul><li>Started by James Simons, former university math prof. </li></ul><ul><li>Uses computer-based math models to predict price movements of liquid instruments (i.e., stocks) – Nova fund accounts for as much as 10% of trading volume on NASDAQ </li></ul><ul><li>Employs scientific specialists including PhDs in mathematics, physics and statistics </li></ul>
  11. 11. The Children’s Investment Fund (TCI) <ul><li>UK-based long-term value fund </li></ul><ul><li>Named after charity it donates a portion of its returns to (run by founder Chris Hohn’s wife) </li></ul><ul><li>Activism – takes significant position in companies and promotes agenda under guise of shareholder value maximization and good governance </li></ul><ul><li>2007 – took 1% stake in ABN Amro and petitioned board to break up company or sell to highest bidder (RBS-led consortium won takeover battle in Oct. ’07) </li></ul>

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