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MiB: Paul Wilmott on Trouble with Quants


 

Its All In The Name

Apparently the name a hedge fund gives itself has a direct bearing on both the inflow of capital and by extension the level of fees they generate from those inflows. It seems that having a name that lends gravitas and sounds somewhat regal (wanky) adds some $250,000 to the inflows.   But funds with such names generate lower performance. The abstract below tells you all you really need to know.

Abstract

We document that investors allocate more flows to hedge funds whose names exhibit gravitas – defined as a combination of words from geopolitics and economics, or suggesting power. The economic effects are relatively large: averaging across our models, adding one more word with gravitas to the name of the average fund brings more than a quarter million dollars more in annual flows. We also document that having a name with gravitas is associated with abnormal negative performance: high name gravitas funds have lower returns, alphas, Sharpe ratios and manipulation-proof performance measures, higher volatilities and maximum drawdowns as well as higher probabilities of extinction than the funds with lower name gravitas. Although we find evidence that investors learn about the true investment abilities of their funds and respond less to gravitas as they do so, the chasing gravitas behavior survives all these controls. From the point of view of hedge fund managers, we document that funds with more name gravitas report to fewer databases, suggesting that giving the fund a “good” name serves as an alternative form of marketing. Finally, we show that our results are robust to a generous battery of additional tests, including corrections for potential endogeneity issues or for whether the fund only accepts qualified investors.

If so motivated you can find the full publication here.

PS: One of the things the did surprise me was that one of the authors makes their home at Imperial College Business School Centre for Hedge Fund Studies. Which does raise the question – how much time can you spend studying failure?

I Think We Have A Different Definitions Of Success

Investing is hard there is no doubt about that and being an amateur investor is even harder because you have to rely upon the supposed expertise of others. This lack of familiarity with the industry and its nuances combined with a dependence upon others makes life very difficult for those on the outside.  However, this difficulty is further compounded by the total and utter bullshit that is spewed out by the industry as to how successful they are and how indispensable they are, as a case in point consider the following paragraph –

Many superannuation industry participants were surprised at the Financial System Inquiry (Murray) arguing that the superannuation system was inefficient and uncompetitive. This confused many within the industry as there are many great achievements – collectively, the industry has delivered:

  • A 5% annual real rate of return on investments over 25 years.
  • Part closure on the population’s under-insurance gap through group policies.
  • A large capital market which has reduced our reliance on foreign investment into Australia – and we have a large pool of assets invested abroad.
  • Widespread international recognition of the Australian system as one of the most effective in the world

Source – RiceWarner

The cited Murray Inquiry is correct, the Superannuation industry is inefficient and noncompetitive but in my view it is also incompetent and somewhat delusional. If we were to take a step back and look at the primary difficulties that all investors face it would be fair to say that they are primarily psychological in nature. Investing or trading is primarily a psychological endevour. You are constantly engaged in a battle with both your basic programming and your own inner demons. Once these are brought under some form of control then the game does become a little easier. Within the rich cornucopia of psychological maladies that afflict us all you would find delusion to be a cornerstone in many. A large population of traders consider themselves to be much more effective than they really are. In fact the entire hedge industry is afflicted by this curse as it would seem by the above paragraph is the superannuation industry and its cheerleaders.

In the above piece I have highlighted the points which in my mind set the tone for the industry. The industry believes it is a great success because over 25 years it has delivered a real return of 5% – the problem with this is over the same period of time the real return on the market is  8.8%. This differential doesn’t sound like much but in terms of the long term returns of an investment that is continually compounded it is enormous. Consider the data presented below where I have compared the return on a simple balance of $25,000 compounded at both the market rates of return and that of the industry.

Capture

The job of a fund manager is to deliver what is known as alpha, this simply another word for skill. If a fund manager delivers a long term rate of return of 10% and the markets rate of return is 8% then you can consider this differential to be the application of skill. The superannuation industry in Australia does the opposite – it is a drag on performance. Yet intriguingly it considers itself to be successful. This delusion has profound effects on investors since they are being charged for the privilege of being underfunded in their retirement. There is an extraordinaire difference between having $84,658.87 in retirement and having $205,902.87  This year the superannuation industry will probably take around $2B in fees yet it will undoubtedly deliver yet another sub par year. This adds to the tens of billions already taken from investors. Outside of politics and the public service it would be hard to find an industry that delivers so little value for such cost to the average consumer.

Whilst I cannot give investment advice I can only reiterate what I have said before. If I had to have superannuation I would opt for an index linked fund with the option to move into cash when required and I would shift in an out of these two options based on the application of a long term moving average over the All Ordinaries as per the free chart below –

index

Nothing fancy or complex, when the index is above the moving average you move into the index when it is below you move into cash.

Female hedge funds outperform those run by men

Hedge funds run by women have generated returns two times higher than their male counterparts this year, piling further pressure on a sector that has been branded “male, pale and stale” to recruit more female portfolio managers. The HFRX Women index, which pulls together the performance of female hedge fund managers, has returned 9.95 per cent for the first seven months of the year. This compares with 4.81 per cent for the HFRI Fund Weighted Composite index, a broader gauge of hedge funds across all strategies and genders. The strong performance comes despite women being under-represented across the hedge fund and wider asset management industry. It also tallies with previous data that show that hedge funds run by women outperform those run by men over five years.

More here – Financial Times

Hugh Hendry Is Closing His Fund

The wonderfully irrepressible Hugh Hendry of Noddy car fame ( see this video for the reference) is closing his fund. His rationale is explained here.

Ray Barros talks profitable trading and risk management strategies

I shared a stage once with Ray way back in the last century and always found him to have something interesting to say.

Click here to be taken to the video.

Capture

The Scientific Method & Investment Management


 

General Advice Warning

The Trading Game Pty Ltd (ACN: 099 576 253) is an AFSL holder (Licence no: 468163). This information is correct at the time of publishing and may not be reproduced without formal permission. It is of a general nature and does not take into account your objectives, financial situation or needs. Before acting on any of the information you should consider its appropriateness, having regard to your own objectives, financial situation and needs.