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Right, but isn't the compensation a bit of a waste from a commercial perspective for what's been proven repeatedly to be a roll of the dice? Am I seeing it wro

Right, but isn't the compensation a bit of a waste from a commercial perspective for what's been proven repeatedly to be a roll of the dice? Am I seeing it wrong? Is the compensation really for convincing Joe Public to part with his money for a really terrible deal?

Kluny 9y ago
It's slightly different when you get into the range of millions and billions of dollars. If you're investing 100,000, you're better off with an indexed mutual fund that charges .03%. If these funds can consistently return 10%, that is actually better than what index funds can get you, which is more like 7% on average over the course of decades, but with a lot of year-to-year variation. But then the expense ratio is 3.6% so the hedge fund clients only get 6.4%... but if that's consistent, it's a pretty decent return.
- losvedir 9y ago
  > If these funds can consistently return 10% Well, yeah, that's the point, isn't it? I thought these funds can't.
  - JumpCrisscross 9y ago
    Some of them can, have and do (e.g. Point72, Renaissance, Soros, et cetera). This extends to many more funds [1]. Furthermore, some institutions (e.g. Yale) are consistently good at picking those funds [2]. The average hedge fund seems to eat all its excess returns in fees. But around a third of all hedge funds, mostly upstarts, die in the first few years [3]. By analogy, if you can understand that Kleiner and Google create excess returns while most VC funds do not, you can understand why a similar exponential dynamic is at play with hedge funds. [1] http://www.investmentreview.com/files/2009/12/18-241.pdf http://www.investmentreview.com/files/2009/12/18-241.pdf [2] http://m.pionline.com/article/20141222/PRINT/312229982/big-public-pension-funds-hedge-fund-portfolios-outperform-their-indexes http://m.pionline.com/article/20141222/PRINT/312229982/big-p... [3] https://www.forbes.com/forbes/welcome/?toURL=https://www.forbes.com/sites/katinastefanova/2015/04/25/the-looming-talent-crisis-are-hedge-funds-due-for-a-wake-up-call/&refURL=&referrer= https://www.forbes.com/forbes/welcome/?toURL=https://www.for...
    - dsacco 9y ago
      Great response. I personally agree with Point72 but avoid using them as an example. In my experience it attracts the argument that their returns are illegitimate due to illegal insider trading, which draws the focus away from others like RenTec and Soros.
    - deleted 9y ago
      [deleted]
- JoshuaEddy 9y ago
  Warren Buffett put his money where his mouth is: he won his $1m wager on the S&P 500 beating a basket of hedge funds over 10 years. And he won despite buying the S&P right before the great recession -- you'd think the hedge funds would have thrived in that market crash by "hedging". It's one more proof point that the vast majority of hedge funds are more risky than justified by returns, regardless of the amount.
  - dsacco 9y ago
    The salient caveat here is that Buffett's bet was against "fund of funds", not individual hedge funds. I would have happily taken the other side of that bet if it was about individual funds and I was allowed to choose them (Buffett also would have lost in that case, but to be fair it would be a fundamentally different claim to bet on). I'd make such a bet even today. I don't disagree that most hedge funds are poor investment vehicles, but that's the nature of active investing. If the majority of hedge/mutual funds underperform the market, and you choose to invest in a fund of funds (essentially an index of their net performance), it doesn't really take a $1M bet to see who is going to lose. I don't think Buffett would take a bet he didn't feel extremely confident about winning, but Ted Seides was just foolish. The only rational reason I can see for taking the other side of the bet given its terms was to generate publicity for himself and his own fund at the expense of some reputation a decade down the line. If he profited from that, I guess it was worth it for him. I really can't imagine he seriously believed he'd win.
    - gmarx 9y ago
      This strikes me as typical gambler mentality. I'd definitely bet against you. I saw your post above about skill and I agree there are people who have better skills at this. The problem is they are operating against a chaotic system. Their way of doing things may get huge returns consistently...until it doesn't.
      - leeleelee 9y ago
        This is 110% true: "Their way of doing things may get huge returns consistently...until it doesn't." And most people will never fully understand that until it happens to them. Then you have this eye opening moment, and you understand.
anothercomment 9y ago
I think the main skill is probably parting clients from their money (convincing them to give it to you), not actually investing the money well. Marketing, essentially. If you can sell, you make money.
- gmarx 9y ago
  same could be said of venture capital
downandout 9y ago
What you are saying applies to vast swaths of the industry, but not all of it. Consider the track record of Renaissance Technologies' Medallion fund, which had annualized returns of 71.8% for 1994-2014 [1]. It's not all smoke and mirrors - there are some funds beating the markets consistently that are worth every bit of their fees and then some. [1] https://en.m.wikipedia.org/wiki/Renaissance_Technologies#Medallion_Fund https://en.m.wikipedia.org/wiki/Renaissance_Technologies#Med...
- inmyunix 9y ago
  By definition an outlier as one of the most successful funds of all time. Also "The firm bought out the last investor in the Medallion fund in 2005 and the investor community has not seen its returns since then"
  - downandout 9y ago
    Nevertheless, it is a fund that has beaten the markets consistently. I was just saying that it is possible to do, so the entire industry is not the sham that most people think it to be. Just the vast majority of it is.
    - soVeryTired 9y ago
      Ask a million people to toss coins repeatedly and it's likely you'll find someone who gets twenty heads in a row. There's a lot of survivor bias in the industry. All the old players have made a lot of money at some point. If they hadn't, they wouldn't be old players.
      - Retric 9y ago
        It's a little worse than that as there are vast incentives to be that guy with 20 heads so people will record themselves fillping coins over and over then only talk about their best streak. Thus you end up with most companies having an 'above average' streak in a given year even if the average investment does poorly. https://m.youtube.com/watch?v=rwvIGNXY21Y https://m.youtube.com/watch?v=rwvIGNXY21Y
zimablue 9y ago
I don't think that the statement Hedge fund returns average the same as passive equity Implies that you should never invest in a hedge fund, because it's possible that they have individual characteristics which mean that they're more or less likely to fail, which you could notice when you invest. eg. Management is obviously incompetent, no track record, incoherent strategy, track record based on being long in a rising market etc. If you believe that's the case, then you might still get above average returns by doing your homework. But I guess given that assumption, still only worth it if you have enough money that you're completely able to lose that it's worth you spending the time to try and work out which hedge fund you trust (easier than spending your working days trading yourself). So if you're an educated hnwi, maybe. If the chain is like you => your employer => your pension fund => some advisor => hedge fund, I'd guess not. I don't have any evidence for this it's just what I believe.
- walshemj 9y ago
  Depends you might want to preserve capital and not try and shoot the lights out and use a hedge fund /active fund that is designed to do that RCP in the uk is one example.
thisisit 9y ago
Hedge funds are not open to Joe public rather only the accredited investors. From wiki - "Generally, accredited investors include high-net-worth individuals, banks, and other large corporations,".
- Applejinx 9y ago
  In a larger sense, it's about persuading Joe Public that this activity is in any way useful.
- bhickey 9y ago
  The high-net-worth bar is lower than you might think. $1m in non-first home assets or $250k in income. Your dentist is not necessarily financially sophisticated by virtue of their high wages.
- walshemj 9y ago
  Are there no listed hedge funds you can invest in and could you not just buy shares in LSE listed hedge funds? Pershing Square for example is an obvious choice on LSE and is an arbitrage play as it looks like it will join the FSTE 250 and have to be brought by index funds.

Kluny 9y ago

It's slightly different when you get into the range of millions and billions of dollars. If you're investing 100,000, you're better off with an indexed mutual fund that charges .03%. If these funds can consistently return 10%, that is actually better than what index funds can get you, which is more like 7% on average over the course of decades, but with a lot of year-to-year variation. But then the expense ratio is 3.6% so the hedge fund clients only get 6.4%... but if that's consistent, it's a pretty decent return.

losvedir 9y ago
> If these funds can consistently return 10% Well, yeah, that's the point, isn't it? I thought these funds can't.
- JumpCrisscross 9y ago
  Some of them can, have and do (e.g. Point72, Renaissance, Soros, et cetera). This extends to many more funds [1]. Furthermore, some institutions (e.g. Yale) are consistently good at picking those funds [2]. The average hedge fund seems to eat all its excess returns in fees. But around a third of all hedge funds, mostly upstarts, die in the first few years [3]. By analogy, if you can understand that Kleiner and Google create excess returns while most VC funds do not, you can understand why a similar exponential dynamic is at play with hedge funds. [1] http://www.investmentreview.com/files/2009/12/18-241.pdf http://www.investmentreview.com/files/2009/12/18-241.pdf [2] http://m.pionline.com/article/20141222/PRINT/312229982/big-public-pension-funds-hedge-fund-portfolios-outperform-their-indexes http://m.pionline.com/article/20141222/PRINT/312229982/big-p... [3] https://www.forbes.com/forbes/welcome/?toURL=https://www.forbes.com/sites/katinastefanova/2015/04/25/the-looming-talent-crisis-are-hedge-funds-due-for-a-wake-up-call/&refURL=&referrer= https://www.forbes.com/forbes/welcome/?toURL=https://www.for...
  - dsacco 9y ago
    Great response. I personally agree with Point72 but avoid using them as an example. In my experience it attracts the argument that their returns are illegitimate due to illegal insider trading, which draws the focus away from others like RenTec and Soros.
  - deleted 9y ago
    [deleted]
JoshuaEddy 9y ago
Warren Buffett put his money where his mouth is: he won his $1m wager on the S&P 500 beating a basket of hedge funds over 10 years. And he won despite buying the S&P right before the great recession -- you'd think the hedge funds would have thrived in that market crash by "hedging". It's one more proof point that the vast majority of hedge funds are more risky than justified by returns, regardless of the amount.
- dsacco 9y ago
  The salient caveat here is that Buffett's bet was against "fund of funds", not individual hedge funds. I would have happily taken the other side of that bet if it was about individual funds and I was allowed to choose them (Buffett also would have lost in that case, but to be fair it would be a fundamentally different claim to bet on). I'd make such a bet even today. I don't disagree that most hedge funds are poor investment vehicles, but that's the nature of active investing. If the majority of hedge/mutual funds underperform the market, and you choose to invest in a fund of funds (essentially an index of their net performance), it doesn't really take a $1M bet to see who is going to lose. I don't think Buffett would take a bet he didn't feel extremely confident about winning, but Ted Seides was just foolish. The only rational reason I can see for taking the other side of the bet given its terms was to generate publicity for himself and his own fund at the expense of some reputation a decade down the line. If he profited from that, I guess it was worth it for him. I really can't imagine he seriously believed he'd win.
  - gmarx 9y ago
    This strikes me as typical gambler mentality. I'd definitely bet against you. I saw your post above about skill and I agree there are people who have better skills at this. The problem is they are operating against a chaotic system. Their way of doing things may get huge returns consistently...until it doesn't.
    - leeleelee 9y ago
      This is 110% true: "Their way of doing things may get huge returns consistently...until it doesn't." And most people will never fully understand that until it happens to them. Then you have this eye opening moment, and you understand.

anothercomment 9y ago

I think the main skill is probably parting clients from their money (convincing them to give it to you), not actually investing the money well. Marketing, essentially. If you can sell, you make money.

gmarx 9y ago
same could be said of venture capital

downandout 9y ago

What you are saying applies to vast swaths of the industry, but not all of it. Consider the track record of Renaissance Technologies' Medallion fund, which had annualized returns of 71.8% for 1994-2014 [1]. It's not all smoke and mirrors - there are some funds beating the markets consistently that are worth every bit of their fees and then some. [1] https://en.m.wikipedia.org/wiki/Renaissance_Technologies#Medallion_Fund https://en.m.wikipedia.org/wiki/Renaissance_Technologies#Med...

inmyunix 9y ago
By definition an outlier as one of the most successful funds of all time. Also "The firm bought out the last investor in the Medallion fund in 2005 and the investor community has not seen its returns since then"
- downandout 9y ago
  Nevertheless, it is a fund that has beaten the markets consistently. I was just saying that it is possible to do, so the entire industry is not the sham that most people think it to be. Just the vast majority of it is.
  - soVeryTired 9y ago
    Ask a million people to toss coins repeatedly and it's likely you'll find someone who gets twenty heads in a row. There's a lot of survivor bias in the industry. All the old players have made a lot of money at some point. If they hadn't, they wouldn't be old players.
    - Retric 9y ago
      It's a little worse than that as there are vast incentives to be that guy with 20 heads so people will record themselves fillping coins over and over then only talk about their best streak. Thus you end up with most companies having an 'above average' streak in a given year even if the average investment does poorly. https://m.youtube.com/watch?v=rwvIGNXY21Y https://m.youtube.com/watch?v=rwvIGNXY21Y

zimablue 9y ago

I don't think that the statement Hedge fund returns average the same as passive equity Implies that you should never invest in a hedge fund, because it's possible that they have individual characteristics which mean that they're more or less likely to fail, which you could notice when you invest. eg. Management is obviously incompetent, no track record, incoherent strategy, track record based on being long in a rising market etc. If you believe that's the case, then you might still get above average returns by doing your homework. But I guess given that assumption, still only worth it if you have enough money that you're completely able to lose that it's worth you spending the time to try and work out which hedge fund you trust (easier than spending your working days trading yourself). So if you're an educated hnwi, maybe. If the chain is like you => your employer => your pension fund => some advisor => hedge fund, I'd guess not. I don't have any evidence for this it's just what I believe.

walshemj 9y ago
Depends you might want to preserve capital and not try and shoot the lights out and use a hedge fund /active fund that is designed to do that RCP in the uk is one example.

thisisit 9y ago

Hedge funds are not open to Joe public rather only the accredited investors. From wiki - "Generally, accredited investors include high-net-worth individuals, banks, and other large corporations,".

Applejinx 9y ago
In a larger sense, it's about persuading Joe Public that this activity is in any way useful.
bhickey 9y ago
The high-net-worth bar is lower than you might think. $1m in non-first home assets or $250k in income. Your dentist is not necessarily financially sophisticated by virtue of their high wages.
walshemj 9y ago
Are there no listed hedge funds you can invest in and could you not just buy shares in LSE listed hedge funds? Pershing Square for example is an obvious choice on LSE and is an arbitrage play as it looks like it will join the FSTE 250 and have to be brought by index funds.