Kindle Notes & Highlights
The hedge-fund industry struck me as a place where the no-bullshit rule would prevail and meritocracy ruled.
This taught me my first lesson about using massive investment-banking-type financial models in hedge-fund work: the technique could work, but you needed to be constantly aware of the bullshit in/bullshit out syndrome.
At the $50 million mark, we would receive $750,000 in management fees every year, and if we could generate 10 per cent gross returns our incentive fee would be $1 million ($50 million × 10% × 20%). Not bad for a start-up. And you wonder why so many people try to start hedge funds?
someone suggested that we come to their large annual fund-raising conference in Versailles in a week’s time. ‘Game on indeed,’ I thought, and told them I would have to check my schedule before committing.
The meeting started well enough, with me cracking my standard jokes. ‘I am originally from Denmark … actually I am still from Denmark,’ I said, as if catching myself.
‘We haven’t yet talked about it in the investment committee.’ (Meaning: Don’t blame me!) ‘Our lawyers are still going over the prospectus and may not get to it in time.’ (I am looking at more interesting funds I might actually invest with.) ‘We just need to see how you get on in the early days.’ (We don’t want to be the only jokers to give you money!) ‘We really want to give you money, but we already have so much exposure to European managers.’ (No chance!)
A couple of guys got drunk and started insulting long-only managers as being the idiots who provided opportunities for us brilliant hedge-fund managers, but mainly speeches covered the usual ‘thanking the team’ stuff.
Since hedge funds typically pay out the entire annual profit in the form of bonuses or dividends, the value of the equity is often less clear-cut than in other types of start-up businesses.
We knew that Massimo had an opportunity to attend business school at INSEAD that would expire when classes started in September. As a result we made the difficult but probably mature decision to part ways over the summer.
When you try to separate out the stake Company A owns in listed Company B, what role does minority interest on the balance sheet of Company A play in finding the deconsolidated financial statements? French company Renault has a large stake in Japanese Nissan. Discuss currency exposures and what you could do to limit them. Suppose Renault guaranteed Nissan’s debt: how would you think about the magnitude of this potential liability? A company changes depreciation of an asset from 10 to 12 years. What will this mean to its stated cash flows and earnings? What does it mean to cash flow and
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What I called the ‘no-bullshit rule’ obviously also applied to our trades. Each trade on our portfolio had to pass these often-repeated tests: The alternative to this trade is cash, which in certain markets is a great investment (assuming the bank you save with does not go bust, of course!). When you come to work each morning, you are effectively buying the portfolio again. If you started today with cash and no securities, is this really the portfolio you would create? Are you guilty of positive affirmation in your trades – i.e., are you looking for reasons why your trade is good rather than
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A trade thesis was a trade idea or hypothesis that was individually hedged to be market-neutral. We thought this had the advantage that we would hedge each trade as was most appropriate for that specific idea. Doing it our way, we felt that we would be better able to avoid the dreaded mid-cap/large-cap bias where you are long mid-cap names and hedge those with the wider market through a large-cap-dominated index – a very typical bias for hedge funds. But we also avoided the industry bias that can come from being long on a particular industry and short on the whole market, which in turn may be
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As things turned out, it was only really after we reached $600–700 million that we started to see liquidity problems in the Holte portfolio.
But sometimes I think activism is like another hedge-fund buzzword used by managers to publicly illustrate to investors that the managers are somehow doing something to improve performance. In my experience we found it more productive to approach management as a friendly shareholder with productive suggestions, almost in lieu of an investment banker. Over the years we spoke to company management on an ongoing basis and perhaps wrote seven to eight letters to boards of companies, but always with the prior knowledge of management, and always trying to be friendly and forthcoming.
‘What is your edge?’ They want to know how you think you can beat the competition. And we all have an answer. You have to. You can’t justify charging investors to manage their money if you cannot explain why investing with you is any better than a monkey throwing darts. Answers you hear often from managers are things like ‘forensic accounting’, ‘primary research’, ‘a proven proprietary trading system’, ‘a better process’ and so on. It is no wonder that investors are sometimes unable to decipher the jargon and fall back on investing with companies that have the best performance history. ‘Nobody
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I completely understand hedge-fund managers who try to launch separate funds. When you are managing only one fund you are incredibly vulnerable with one product to sustain your business, and bad performance can easily put you out of business altogether. Diversifying across multiple funds and ensuring that they don’t correlate gives you far greater durability when times are tough.
After the twins were born, we moved to a large house in fashionable Notting Hill. It did not come cheap, but, for us, it was not a lot more to pay for a big step up in quality. It seemed as if all our new neighbours were rich foreigners, private-equity or hedge-fund investors, and perhaps the occasional banker.
As in most industries, the top guys shared a few common traits. First and foremost they were incredibly hungry and driven, and mainly very intelligent and thoughtful about their work and the world around them.
We would say stuff like, ‘We don’t like to disclose our size, but we need to be able to have at least a $10 million investment and are not afraid to have stakes large enough that we have to disclose them to the authorities’, knowing that this could mean that we might be just a $100 million fund, but could just as easily be a $10 billion one.
The cemetery of hedge-fund collapses is filled with investors who bought in again when they thought things could not get worse.
Our two prime brokers, Morgan Stanley and Credit Suisse, offered to help the team get new jobs through their ‘talent introduction group’. They clearly have groups for everything. The talent introduction groups are used to connect clients with potential recruits and are a great way of finding people and jobs. Over the years we received endless résumés from those groups and two of our staff came that way. In time two from our team moved on this way.
Equally self-deluding are those who insist rather more pretentiously that they were the victims of a ‘six-sigma event’. The only advantage of this expression is that it may scare away the follow-up question. Who wants to sound stupid by admitting that they don’t know what ‘six sigma’ means even if the guy in front of them has just cost them a fortune? Sigma (standard deviation) is a measure of how frequent various outlying events (or numbers) are relative to an average occurrence. A six-sigma event is something that should happen so infrequently that you might have heard about a guy who had
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It seems to me that in order to be a successful manager over a long period of time, you have to love investing money, regardless of the income you get from it; you also have to firmly believe you can beat markets.
