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This does not surprise me. My personal experience with hedge fund managers is that they are good salesmen that peddle their financial expertise to clients, con

by osrec 9y ago

This does not surprise me. My personal experience with hedge fund managers is that they are good salesmen that peddle their financial expertise to clients, convincing them of their financial rock-star status (usually gained through a lucky investment or two). Paulson is a classic example. Wealthy individuals buy into it, especially those that are less educated (e.g. those that have inherited money), and happily allocate away their money to these guys. Once the funds grow to a certain size, then they might consider pitching their investments to pension funds, and their money pot grows, as does the nominal value of their fees. By the time they have pension funds on board, their investments get less and less risky, eventually looking more and more like a basket of standard commodities or a standard equity index! Thus, the value they add also becomes smaller and smaller. In my opinion, the hedge fund industry is a bit of a farce, but there are a small number of firms that do have a secret sauce that works sometimes (rarely forever though). In my experience, the firms that tend to make consistent money are the market makers, rather than the speculators.

RandomInteger4 9y ago
I've only dabbled a little in cryptocurrency exchanges, so the terms seem to refer to the same thing to me, but maybe it's contextual? Forgive my ignorance, but can you explain the difference between market makers and speculators?
- cm2187 9y ago
  You have market makers where you don't have an exchange, or where there is very little liquidity. Usually a bank but not always. They are there to "make a market", i.e. to offer liquidity to clients. Speculators take a directional position. Market makers make money on the bid/offer.
  - ycombobreaker 9y ago
    The exchange is not a counterparty. You have market makers there as well. Even in very liquid markets, it may be common to trade against market makers, just at a tighter bid-ask spread.
- kgermino 9y ago
  Think of a market maker as a used car dealer. Alice has a car that she wants to sell today and Bob wants to buy a car, but he won't be ready to until next week. The dealer will buy Alice's car today and hold it until Bob wants to buy next week (for a profit of course). Thus the dealer is making a market for Alicia to sell her car, and for Bob to buy one, without the two having to having to meet in time or space. Market makers perform a similar function on illiquid stocks, where there may be more sellers than buyers at one moment but more buyers Jan sellers the next. Speculators are simpler. They're the guy who buys Telsa roadsters because he thinks they will be a collectible soon.
- stale2002 9y ago
  A market maker takes both sides of the market, and makes money on the spread. IE, a market maker would have a standing order to buy 1000 shares of microsoft stock for 29.99$ and then have a second standing order to sell it for 30.00$ at the same time. If the market is on average buying and selling randomly, the market maker makes .01$ for every pair of buy and sell trade. A speculator is someone who takes only 1 side of the market. IE, they buy 1000 microsoft shares, hoping that the price will increase, or sells 1000 shares hoping that the price will decrease.
blfr 9y ago
Nothing works forever but there are funds like Renaissance Technologies' Medallion which may just be getting heads for a long time but rather seem to have some secret sauce that works for a long time. Usually though they're not very large and don't seek out investments.
- ng12 9y ago
  I think that's an important point. The problem good funds have is not finding more capital but being able to manage it without cannibalizing their own returns. Anybody trying to sell you a hedge fund is probably not selling a very good one.
- osrec 9y ago
  Yes, Renaissance is an exception. I would argue that their nature of their strategies almost puts them into a pseudo market maker category (I've personally never worked with/for them, but I hear much of their strategy is statistical arbitrage, made possible by favourable transaction fee set ups and fast, colocated execution infrastructure).
  - cma 9y ago
    Plus apparently some dodgy "creative" tax code interpretations around short-term/long-term gains.
    - cheez 9y ago
      Is it dodgy? You buy a share in a fund, that fund buys and sells, should you pay capital gains on every sale that fund makes? I don't think that has any precedent. You pay tax when you sell your share.
      - cma 9y ago
        The type of strategy they employed isn't something small time investors could. It was a complex option scheme essentially buying options on their own short term trading.
physguy1123 9y ago
I expect that you are right about a significant number of funds (I would say most long-only funds). But a decent chunk of the industry exists because investors want higher-sharpe investments than the market even if they don't beat a bull market and/or investments that will remain uncorrelated with the market. This is a reason why a lot of money is flowing into quant funds despite the overall outflow, because most quant strategies do great in volatile markets (but mediocre otherwise) where other funds are the market+fees.
- osrec 9y ago
  Yes, my reply was focusing on equities as the s&p was referenced in the post. There are other kinds of funds that do reasonably well; distressed credit shops seem to have done okay in the past few years, although that's starting to tail off now as there are more players in the market.
- valuearb 9y ago
  Money is flowing in because they think they can pick the funds with true alpha, but they can't.
bhouston 9y ago
I understand a lot of the top performing hedge funds operate via insider information.
- osrec 9y ago
  This is sometimes true, and in my opinion, happens more at the smaller, unregulated hedge funds where the volumes can go undetected.
- dsacco 9y ago
  Is your understanding that they operate via illegal insider information, or access to information that is very difficult to achieve? To be clear: I have mined and sold data to hedge funds before, including well known ones, and from that work I derived two conclusions: 1. It is fundamentally possible to beat the market consistently and legally by exploiting information asymmetry, and 2. Most hedge funds, especially the most successful ones, do not operate via illegal insider information (and will, in fact, fly into a compliance department initiated lock down on a security if, say, an overzealous data vendor compromises confidentiality). Basically, I'm asking for clarification because as stated, I disagree with your assertion here. There are legal grey areas and some people are outright criminal, but overall I wouldn't characterize the top performing funds as being wholly or even close to partially dependent upon insider information, let alone at a systemic organizational level.
  - hellogoodbyeeee 9y ago
    > I have mined and sold data to hedge funds Are you able to tell more about what types of data this was? I'd be interested in hearing more. I love the story of hedge funds using satellite imagery of parking lots to predict retail store strength
    - dsacco 9y ago
      > Are you able to tell more about what types of data this was? I mined data in the real estate, QSR, automotive and airline sectors (and a few peripherally related ones). We would identify a source of data that was a demonstrably strong proxy for a specific company's revenue (that is to say, if we broke out a naive timeseries of the data it would map nearly 1:1 to earnings results each quarter). Then we would collect this data en masse, writing software over a custom crawler and infrastructure, bespoke to each case. During ingestion we'd process and normalize the data and dump it in a database. Once we had a significant amount of data we'd build a forecasting model, which could be very straightforward ("how many products have they sold this quarter", for simpler companies) to very complex ("can we reverse engineer the amount of business which is now online" or "can we determine the undisclosed amount of business being done in this specific region"). This analysis (and not the data itself) constituted the product - we never even provided the data directly to the hedge funds. Once the crawling and analysis was mature, we'd incubate it for a few quarters while building interest; then, after showing a very strong mapping over several quarters, offer it as a data product. It was not uncommon to achieve <5% or even <1% margin of error for forecasting earnings announcements on a quarterly basis. The data was always public and legal, though challenging to identify and difficult to effectively crawl. It was typically derived from very uncommon sources, and would range in complexity from the extremely simple ("we can crawl sequentially incremented integers from this third party that appear to map to products sold by this company") to the very sophisticated and complex (e.g. "we've collected a zero sum distribution of ad partners and their spend on the network, are more partners churning off, and is this a better or worse outcome for the company?"). I've spoken about this in comments here before. This is still very doable, and I still do this sort of work for personal research (and profit). However, the work I do is now much more quantitative - I'm currently taking a similar approach for baskets of equities with the goal of forecasting macroeconomic trends (e.g. subprime auto loans) instead of the earnings results of individual equities. To give a very specific throwaway example (because it doesn't violate an NDA and it no longer works): it used to be possible to pretty accurately forecast large tech retailers' product sales each quarter (like Apple) by reverse engineering FedEx and UPS tracking numbers.
Ntrails 9y ago
> This does not surprise me. It shouldn't. That anyone would take a basket of hedge funds and think it would win vs the market is madness. Active investment is negative sum due to fees - it's essentially implausible for hedge funds on average to generate alpha. There are plenty which do. There are lots which actually simply provide alternative Betas, or smart betas, or whatever. Some of them have genuinely reasonable fee structures! Finding those funds and even getting access to give them your money is really problematic (and often results in another layer of fees to "access providers").
- knodi123 9y ago
  > it's essentially implausible for hedge funds on average to generate alpha. Only if they're playing fair. But, wink wink, you should really wink wink invest in my uncle's fund, he knows a wink good strategy, but if you enjoy plausible deniability you'll just fork over the dough without asking too many questions.
  - jandrese 9y ago
    But it turns out that uncle, a former NASDAQ chair, was running a pyramid scheme the entire time...
JKCalhoun 9y ago
See John C. Bogel (https://en.wikipedia.org/wiki/John_C._Bogle https://en.wikipedia.org/wiki/John_C._Bogle).

by osrec 9y ago

RandomInteger4 9y ago

I've only dabbled a little in cryptocurrency exchanges, so the terms seem to refer to the same thing to me, but maybe it's contextual? Forgive my ignorance, but can you explain the difference between market makers and speculators?

cm2187 9y ago
You have market makers where you don't have an exchange, or where there is very little liquidity. Usually a bank but not always. They are there to "make a market", i.e. to offer liquidity to clients. Speculators take a directional position. Market makers make money on the bid/offer.
- ycombobreaker 9y ago
  The exchange is not a counterparty. You have market makers there as well. Even in very liquid markets, it may be common to trade against market makers, just at a tighter bid-ask spread.
kgermino 9y ago
Think of a market maker as a used car dealer. Alice has a car that she wants to sell today and Bob wants to buy a car, but he won't be ready to until next week. The dealer will buy Alice's car today and hold it until Bob wants to buy next week (for a profit of course). Thus the dealer is making a market for Alicia to sell her car, and for Bob to buy one, without the two having to having to meet in time or space. Market makers perform a similar function on illiquid stocks, where there may be more sellers than buyers at one moment but more buyers Jan sellers the next. Speculators are simpler. They're the guy who buys Telsa roadsters because he thinks they will be a collectible soon.
stale2002 9y ago
A market maker takes both sides of the market, and makes money on the spread. IE, a market maker would have a standing order to buy 1000 shares of microsoft stock for 29.99$ and then have a second standing order to sell it for 30.00$ at the same time. If the market is on average buying and selling randomly, the market maker makes .01$ for every pair of buy and sell trade. A speculator is someone who takes only 1 side of the market. IE, they buy 1000 microsoft shares, hoping that the price will increase, or sells 1000 shares hoping that the price will decrease.

blfr 9y ago

Nothing works forever but there are funds like Renaissance Technologies' Medallion which may just be getting heads for a long time but rather seem to have some secret sauce that works for a long time. Usually though they're not very large and don't seek out investments.

ng12 9y ago
I think that's an important point. The problem good funds have is not finding more capital but being able to manage it without cannibalizing their own returns. Anybody trying to sell you a hedge fund is probably not selling a very good one.
osrec 9y ago
Yes, Renaissance is an exception. I would argue that their nature of their strategies almost puts them into a pseudo market maker category (I've personally never worked with/for them, but I hear much of their strategy is statistical arbitrage, made possible by favourable transaction fee set ups and fast, colocated execution infrastructure).
- cma 9y ago
  Plus apparently some dodgy "creative" tax code interpretations around short-term/long-term gains.
  - cheez 9y ago
    Is it dodgy? You buy a share in a fund, that fund buys and sells, should you pay capital gains on every sale that fund makes? I don't think that has any precedent. You pay tax when you sell your share.
    - cma 9y ago
      The type of strategy they employed isn't something small time investors could. It was a complex option scheme essentially buying options on their own short term trading.

physguy1123 9y ago

I expect that you are right about a significant number of funds (I would say most long-only funds). But a decent chunk of the industry exists because investors want higher-sharpe investments than the market even if they don't beat a bull market and/or investments that will remain uncorrelated with the market. This is a reason why a lot of money is flowing into quant funds despite the overall outflow, because most quant strategies do great in volatile markets (but mediocre otherwise) where other funds are the market+fees.

osrec 9y ago
Yes, my reply was focusing on equities as the s&p was referenced in the post. There are other kinds of funds that do reasonably well; distressed credit shops seem to have done okay in the past few years, although that's starting to tail off now as there are more players in the market.
valuearb 9y ago
Money is flowing in because they think they can pick the funds with true alpha, but they can't.

bhouston 9y ago

I understand a lot of the top performing hedge funds operate via insider information.

osrec 9y ago
This is sometimes true, and in my opinion, happens more at the smaller, unregulated hedge funds where the volumes can go undetected.
dsacco 9y ago
Is your understanding that they operate via illegal insider information, or access to information that is very difficult to achieve? To be clear: I have mined and sold data to hedge funds before, including well known ones, and from that work I derived two conclusions: 1. It is fundamentally possible to beat the market consistently and legally by exploiting information asymmetry, and 2. Most hedge funds, especially the most successful ones, do not operate via illegal insider information (and will, in fact, fly into a compliance department initiated lock down on a security if, say, an overzealous data vendor compromises confidentiality). Basically, I'm asking for clarification because as stated, I disagree with your assertion here. There are legal grey areas and some people are outright criminal, but overall I wouldn't characterize the top performing funds as being wholly or even close to partially dependent upon insider information, let alone at a systemic organizational level.
- hellogoodbyeeee 9y ago
  > I have mined and sold data to hedge funds Are you able to tell more about what types of data this was? I'd be interested in hearing more. I love the story of hedge funds using satellite imagery of parking lots to predict retail store strength
  - dsacco 9y ago
    > Are you able to tell more about what types of data this was? I mined data in the real estate, QSR, automotive and airline sectors (and a few peripherally related ones). We would identify a source of data that was a demonstrably strong proxy for a specific company's revenue (that is to say, if we broke out a naive timeseries of the data it would map nearly 1:1 to earnings results each quarter). Then we would collect this data en masse, writing software over a custom crawler and infrastructure, bespoke to each case. During ingestion we'd process and normalize the data and dump it in a database. Once we had a significant amount of data we'd build a forecasting model, which could be very straightforward ("how many products have they sold this quarter", for simpler companies) to very complex ("can we reverse engineer the amount of business which is now online" or "can we determine the undisclosed amount of business being done in this specific region"). This analysis (and not the data itself) constituted the product - we never even provided the data directly to the hedge funds. Once the crawling and analysis was mature, we'd incubate it for a few quarters while building interest; then, after showing a very strong mapping over several quarters, offer it as a data product. It was not uncommon to achieve <5% or even <1% margin of error for forecasting earnings announcements on a quarterly basis. The data was always public and legal, though challenging to identify and difficult to effectively crawl. It was typically derived from very uncommon sources, and would range in complexity from the extremely simple ("we can crawl sequentially incremented integers from this third party that appear to map to products sold by this company") to the very sophisticated and complex (e.g. "we've collected a zero sum distribution of ad partners and their spend on the network, are more partners churning off, and is this a better or worse outcome for the company?"). I've spoken about this in comments here before. This is still very doable, and I still do this sort of work for personal research (and profit). However, the work I do is now much more quantitative - I'm currently taking a similar approach for baskets of equities with the goal of forecasting macroeconomic trends (e.g. subprime auto loans) instead of the earnings results of individual equities. To give a very specific throwaway example (because it doesn't violate an NDA and it no longer works): it used to be possible to pretty accurately forecast large tech retailers' product sales each quarter (like Apple) by reverse engineering FedEx and UPS tracking numbers.

Ntrails 9y ago

> This does not surprise me. It shouldn't. That anyone would take a basket of hedge funds and think it would win vs the market is madness. Active investment is negative sum due to fees - it's essentially implausible for hedge funds on average to generate alpha. There are plenty which do. There are lots which actually simply provide alternative Betas, or smart betas, or whatever. Some of them have genuinely reasonable fee structures! Finding those funds and even getting access to give them your money is really problematic (and often results in another layer of fees to "access providers").

knodi123 9y ago
> it's essentially implausible for hedge funds on average to generate alpha. Only if they're playing fair. But, wink wink, you should really wink wink invest in my uncle's fund, he knows a wink good strategy, but if you enjoy plausible deniability you'll just fork over the dough without asking too many questions.
- jandrese 9y ago
  But it turns out that uncle, a former NASDAQ chair, was running a pyramid scheme the entire time...

JKCalhoun 9y ago

See John C. Bogel (https://en.wikipedia.org/wiki/John_C._Bogle https://en.wikipedia.org/wiki/John_C._Bogle).