HEDGE FUNDS: Hedge Fund Investors Need a Â‘CoachÂ’ That is World Class
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This is according to Thomas Schlebusch, CEO of Blue Ink Investments, who recommends that both parties get the following five key factors right in order to form a winning combination that will deliver the goods:
1. Hedge Fund Investors - Individuals with Experience and Track Records
When it comes to constructing teams for both international rugby and fund of hedge funds Â– it is crucial to pick a team of individuals that have experience accompanied by proof of a historical track record.
This philosophy characterises the current strategy employed by coach Pieter De Villiers whoÂ’s starting 15 going into the 2011 Rugby World consists of a core of experienced individuals such as John Smit and Victor Matfield, who both have over 100 caps each. This also includes extensive experience in high-pressure tournaments such as the British and Irish Lions series, Tri-Nations and also the 2007 Rugby World Cup - a tournament that South Africa won thanks to key efforts from, among others, Smit and Matfield.
It is equally crucial that each of the underlying hedge funds included in the fund of hedge funds portfolio is run by investment professionals that have been in place for the majority of the performance history (an investor making an investment into hedge funds is backing the managerÂ’s skill rather than taking a view on the direction of a market or an asset class). Ideally a hedge fund of funds manager will look for a manager of a fund with a track record of longer than three years. He will closely evaluate what the managers experience level is, as well as what skills he possesses.
2. Hedge Fund Investors - Choosing individuals with strong support teams
Being a successful international rugby player requires the ability to focus on one thing only - playing rugby. This means that it is crucial for players to have support staff that look after non-core issues such as finances, endorsements and contracts and to ensure that other daily administration duties are taken care of.
The same applies to individual hedge fund managers. International studies have shown that the largest numbers of hedge fund failures are caused by daily office and administration issues which take up too much of the fund managerÂ’s time, causing performance to diminish. For this reason, fund of hedge fund managers place a lot of importance on ensuring that each individual hedge fund manager has a strong back office support before including them in the portfolio. From a corporate governance point of view, they will also insist that all non-core administrative functions are outsourced to the best providers of that service. These include custody, administration and pricing as well as risk and mandate compliance monitoring.
3. Hedge Fund Investors - Following process
Both the Springbok coach and the hedge fund of funds manager must at all times ensure that the individual players adhere to the overall team strategy. This means clearly formulating and communicating objectives and philosophies and ensuring that processes followed by the individuals are consistent and sustainable. In a hedge fund, this also means adhering to the mandate and investment guidelines agreed to between the fund of hedge funds and the manager.
4. Hedge Fund Investors - Balance and style
It is up to the coach or fund of hedge fund manager to devise the style that he feels will be most successful and then pick the players best suited to that particular game plan.
For example, if the coach decides that an expansive style is required, he will select players who are good at running and passing the ball. Similarly if a fund of hedge fund manager is running an aggressive portfolio, there will be a higher exposure to equity managers with more leverage. In a hedge fund of fund, the manager needs to firstly decide how much exposure he would want to similar manager strategies/styles, i.e. fixed interest arbitrage, market neutral etc., and within that style he will have to select the managers who he feels are best at extracting value within that style.
There also exists a fine balance between identifying the best individuals and getting sufficient diversification as per the overall team objectives. In rugby terms, a good example would be selecting a balanced loose forward combination. This means that sometimes, a great player is overlooked because he is too similar to the other loose forwards in the team and instead, the coach may go for a player that although not as individually brilliant, brings a different dimension to the team because of his unique abilities. In a fund of hedge fund portfolio, many factors are considered in the allocation process. These include performance, correlations, diversity of strategy, risks and drawdowns.
5. Hedge Fund Investors - Size is important
While conventional rugby wisdom says that a good big player will always beat a good little player, competitors such as Heinrich BrÃ¼ssow and Gio Aplon have proven the opposite. The converse also applies to hedge fund managers. History has shown that smaller, more focused hedge funds have yielded greater returns with more consistency. This is largely as a result of smaller managers being more nimble and secondly, being hungrier to perform, and by definition, also more willing to negotiate favorable terms with investors. Fund of hedge fund managers are therefore more likely to include smaller, more flexible hedge funds in their portfolios. However, one has to distinguish between large or small funds and large or small fund management houses. Smaller, more nimble funds are preferred within a large management house due to the backing and governance that exists compared to a smaller management house.
Just like coaching the Springboks, managing a fund of hedge funds is a challenging proposition. However, if done correctly, these funds can produce spectacular results with most consistently beating their respective benchmarks over the short and long time periods.
Now consider coaching the Barbarians team, being able to select from the best rugby players in all the positions from across the world. This is the benefit of international hedge funds of funds - hedge fund investors.
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