Wednesday, July 28, 2010

Rittereiser and Kochard, Top Hedge Fund Investors

Most hedge fund books focus on managers and their strategies. Top Hedge Fund Investors: Stories, Strategies, and Advice by Cathleen M. Rittereiser and Lawrence E. Kochard (Wiley, 2010) is written from a different perspective. The authors profile nine successful investors in hedge funds—“the pioneers and next-generation, high-net-worth individuals, funds of hedge funds, and institutions.”

According to industry metrics investment in hedge funds is concentrated: most hedge fund investors commit 85-90% of their assets to the same 170 to 200 large hedge funds. (p. 183) But some of the investors interviewed for this book have seeded new funds or have invested in early-stage funds. For instance, Frank Meyer seeded Ken Griffin of Citadel fame.

Many of the interviewees describe in great detail the qualities they are looking for in a fund manager. I particularly enjoyed Mark Anson’s cautionary top ten quotations from hedge fund managers he has spoken to over the course of his career. One was “Basically I look at screens all day and go with my gut.” Anson’s response: “While he may be a gutsy investor, there is simply too much process risk associated with this hedge fund manager to make a credible investment.” (p. 92)

At Investcorp Deepak Gurnani proceeded more quantitatively through his Alpha Project. A group of five quants and tech people dissected the primary hedge fund strategies and “determined the generic trade that defines each strategy.” They then constructed a database of historical prices for securities in that strategy. Moving strategy by strategy, they calculated proprietary indexes of generic hedge fund returns. On the basis of these indexes they will either look for managers who are adding alpha or use more cost-effective ways to generate the same return.

Some strategies, Guarnani says, are easy to replicate and can be executed passively; convertible arbitrage is the best example. By stark contrast, macro discretionary “is so skill-based” that he hasn’t even started the Alpha Project on it. “It is totally skill, there is no natural return.” (p. 146)

Top Hedge Fund Investors is written for those who invest in hedge funds and, by extension, for hedge fund managers. (It’s imperative to know what your potential clients are thinking.) Ma and Pa Kettle won’t learn much about where to put their nest egg.

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