Wednesday, September 7, 2011

McCullough, Diary of a Hedge Fund Manager

Diary of a Hedge Fund Manager: From the Top, to the Bottom, and Back Again (Wiley, 2010) by Keith McCullough with Rich Blake is now available in paperback. McCullough, a global macro strategist, is CEO of Research Edge, a firm he founded in 2008.

McCullough’s career in the hedge fund world was not extraordinary. He was never truly at the top nor at the bottom, although he was fired from his last job pre-financial crisis (good call, too early = losses). He got his feet wet at CSFB and then ran money at Dawson-Herman’s Millennium Fund and Carlyle-Blue Wave. He also launched his own fund, later integrated into Magnetar Capital. These days, from his New Haven, CT office, he provides independent research to portfolio managers, analysts, and traders.

Perhaps because McCullough was more a plodder than a superstar and comes across as somewhat na├»ve compared to the usual Wall Streeter his insights into the hedge fund world are all the more valuable. He doesn’t have that self-aggrandizing, self-censoring instinct.

We read about the old boy network, in this case the Ivy League jock network. McCullough, a Yale hockey recruit from Canada, both benefited from his hockey ties and befriended other former hockey players. There are lots of references to hockey throughout the book. My favorite: when Tiger Williams compared “I-bankers to figure skaters and hedge fund managers to hockey players.” (p. 64)

Recognizing that not everyone on Wall Street came from a high-society background and that some of the junior staff needed help carrying out their new wine-and-dine role with aplomb, the folks at CSFB hosted an in-house wine seminar: “the event could have been called How to Order Fine Wine Without Looking Like a Moron.” (p. 52) McCullough’s practical takeaway: just order something expensive.

McCullough recounts some of his “research” misses and the lessons he learned: “One, stocks don’t lie. People do. And two, if you just go along with what everybody else thinks, if you confuse popular consensus for an honest research process, you’re setting yourself up for failure.” (p. 73)

The book can occasionally be deliciously catty. Back in 2006 McCullough routinely shorted Coach and for the most part got squeezed as “that darling of luxury brands” kept climbing. “Call me bitter, but to me, Coach was emblematic of hype-fed investing. … Its CEO Lewis Frankfort guided the Street about as skillfully as any executive ever has, delivering on growth quarter after quarter. Frankfort had a son who was in equity sales at Bear Stearns. If you were part of Frankfort’s circle, you knew that. You believed his story, and he did not disappoint.” McCullough steadfastly refused to believe the story. “Once a division of the Sara Lee Corporation, Coach went public in October 2000 on the idea that boiled down to women of all ages and income brackets, from Palm Beach to Sri Lanka, needing at least one $250 handbag per year, if not several, possibly one for each season. The idea that the company’s whole entire revenue growth outlook relied on women buying four expensive Coach handbags per year boggled my mind. Sure some might buy four, but all from Coach? And listening to Lew Frankfort talk about ladies’ accessories in a thick New York City accent was comical on a whole other level. He’d be riffing on charm bracelets and the sweet spot between modest and luxurious, speaking in the tones and cadence of a Jets fan calling into a sports talk radio show.” (pp. 133-34) If you’ve ever heard an interview with Frankfort, you know what McCullough means.

McCullough is up front about his calls, both good and bad—in fact, he tends to focus on the bad. In the epilogue he describes a Research Edge morning call that started out: “Okay, so we got our doors blown off.” Then, “with the uncomfortable admission behind me, I continue on with my morning macro overview, delivering in rapid-fire succession a barrage of facts and factoids, takes and observations, glancing at my notebook now and again, but the material pours out because it’s burned on my brain and needs to come out. I cover currencies, countries, commodities—gold is a buy today if it’s down, but long-term I’m selling if it goes over $1,000….” (pp. 197-98) Not the best call, with GLD trading at 93.71 the day before his early morning call on June 2, 2009 and only a slight pullback before gold started its parabolic climb to over $1900. But it stayed in the book.

Diary of a Hedge Fund Manager is a sometimes overly honest, in-the-trenches account of Wall Street and hedge funds between 1999 and late 2007. It makes for good reading.

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