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Hedge Fund Indices Projection (December 2009)
January 8th, 2010
I. Performance Projections - December 2009
The following analysis provides return projections for several hedge fund equity indices for December 2009. By conducting this analysis on a monthly basis, we are essentially creating a synthetic track record for hedge fund index replication. Compared to general back-testing procedures that use historical data, our approach projects the monthly performance before the actual returns are available. Hence, we cannot modify the data to generate more desirable results. Thus, it may be viewed as a “true” projection.
Based on our analysis, most hedge fund strategies will finish the year on a positive note. The hedge fund composite index is projected to post a positive return of about 1% and emerging market and convertible arbitrage strategies continue to strongly perform.
Table 1: Hedge Fund Indices Performance Projection - December 2009
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Galleon Technology Fund: A Clipper Or A Barge?
November 17th, 2009
The goal of this week’s post is to explore the factors driving Galleon Technology fund’s performance a bit deeper. The fund was widely known for its high turnover, rapid-fire trading and extensive use of options to leverage short-term bets. Therefore, it seems unlikely that this quintessential hedge fund could resemble a typical technology sector mutual fund. But, as we’ve already learned from our previous analysis of Renaissance RIEF, such massive trading may inadvertently result in performance that can be explained by a handful of directional bets.
First, we expanded the time period from our previous post. The chart below now includes excess return information for five full years from 2004 where we’ve highlighted three months: July ’07 and ’08, which have come under heavy scrutiny for alleged insider trading and July ’06, where outperformance was notably higher than both July ’07 and July’08. Over the five year period (2004-2008) these three months were the only months when the Galleon fund significantly outperformed its peers—an average technology hedge fund in the index.
Clearly, July performance numbers for each of the three years are deemed as statistical outliers (regardless of the legal connotation) which potentially could distort any further analysis of Galleon returns. In addition, the complaint mentions July 2007 $4M gain from trading Hilton—not a technology stock—which could also “contaminate” our analysis. Given the facts above we decided to remove all three July observaions as outliers.
Next, we proceed with a dynamic forensic analysis of the Galleon Technology fund’s returns similar to the one performed in our previous post using MPI Stylus™ and its DSA engine. The results of this analysis are presented in an exposure chart below. Note that this chart does not show actual holdings, but allocations to different factors that best explain the returns of the fund.
We note quite stable long exposure to several Dow Jones technology sectors. The exposure to foreign technology companies is represented by the MSCI All Country ex. US Tech index, indicating positions in ADRs, foreign stocks, or simply sensitivity to foreign markets through investing in U.S. stocks. Short exposure to PowerShares QQQ ETF is supported by the fund’s SEC filings according to which the fund maintained at times a significant position in QQQ put options. Both the cash exposure (about 60%, an indication of net 40% market exposure) and the size of the short position (30-40%) are similar to our earlier results. At the same time, these results are slightly different from the ones in the previous post, which is expected given that we removed three very large outliers.
It should be noted that because of the removal of outliers the statistical quality of the analysis improved significantly. The R-squared statistic determining the quality of fit is 89% and the Predicted R-squared, MPI’s proprietary cross-validation statistic, is 79%. Such a high quality regression is more typical for a large, diversified mutual fund. The quality of fit is also illustrated in the performance chart below where an exposure-weighted portfolio made of factor indexes (called a “Style” or “Tracking” portfolio) closely tracks the fund’s actual performance in-sample (“Total”).
Note that the tracking is exceptionally good through the middle of 2006 where the fund and the tracking portfolio lines begin to deviate slightly despite the removal of outliers. Nevertheless, both the pattern of performance and its magnitude are captured very well throughout the entire five-year history.
While the results of this analysis are very intriguing and somewhat unexpected, the study itself carries very important lessons for investors. First, it shows that analysis of hedge fund returns is a delicate, iterative process requiring careful examination of residuals. If outliers cannot be explained by any available portfolio information they could warrant removal or winzorisation. More importantly, removal of several large “alpha” outliers allowed us to show that in the remaining periods this quintessential high-turnover arbitrageur behaved more like a diversified mutual fund, with returns mimicked by a few long-term directional bets. And while massive computer-generated trading of Renaissance RIEF resulted in such an immediately apparent pattern, in the case of Galleon, the long-term directional pattern became visible only after identification and removal of several exceptional returns.
Daniel Li, PhD contributed to this research.
Galleon Puzzle: Can You Spot Insider Trading - Without Wiretapping?
November 3rd, 2009
The pattern in alpha is as important as its magnitude…
Daniel Li
Michael Markov
In the recent insider trading scandal involving the founder of Galleon Group, Raj Rajaratnam, the government used wiretaps to secretly record his phone conversations and those of his alleged accomplices. In the complaint, government prosecutors present an insider trading case against Rajaratnam and several other executives for illegally profiting from trading stocks and options of Hilton, Google, Akamai and others.
Is it “Miller Time” or the Market?
October 26th, 2009
Bill Miller is on the front page again, but this time it is good news. The famed manager was featured in a recent cover story by Barron’s titled “It’s Miller Time”.
Intrepid Small Cap Success: Stock Selection or Market Timing?
October 9th, 2009
The Intrepid Small Cap Fund, managed by Eric Cinnamond of Intrepid Capital Funds, has garnered noteworthy media attention this year. Bloomberg Online’s June 3, 2009 article featured Cinnamond’s fund as the only diversified stock manager to outperform Bill Gross’ venerable Pimco Total Return Bond fund over the trailing 3-year period (through 5/26/09):
http://www.bloomberg.com/apps/news?pid=newsarchive&sid=ayC.BwlNdpFU.
Wall Street Journal’s print edition on October 5, 2009 also featured Mr. Cinnamond as placing second in the Winner’s Circle contest for the 12-month period through September 2009 (posting a 29% return).
We decided to take a closer look using daily data and returns-based style analysis (RBSA), and found Mr. Cinnamond’s selection skills over the past eighteen months have been strikingly strong relative to other small capitalization mutual funds.
To Hedge or Not To Hedge?
September 23rd, 2009
We are getting mixed signals from the industry this week. First, on Monday P&I reported that CalPERS decided to discontinue their equity hedging overlay program which caused the plan to lose almost $1B in a year.
http://www.pionline.com/article/20090921/PRINTSUB/309219966/1031/TOC
The message here is that hedging proved to be a tricky business even for CalPERS.
Fairholme Fund Revisited
August 25th, 2009
We continue to follow Fairholme Fund after posting a detailed attribution analysis of the fund on our blog early in the year. Read more…
Identifying Bond Fund Risks Before Getting Burned
June 23rd, 2009
The class action lawsuit involving the Oppenheimer Core Bond Fund (OPIGX) alleges that the firm understated the fund’s risks as reported in a Read more…
Renaissance RIEF April ’09 Performance Puzzle
May 15th, 2009
Back in 2007, we published a research report “The Law of Large Numbers“ with an analysis of the Renaissance Technologies RIEF fund and showed how a similar strategy would have performed during previous recessions and major market downturns. Thus, it shouldn’t come as a surprise that the RIEF has lost about 17% through April and 8-9% in April alone as it was reported by The Wall Street Journal and various blogs. Read more…
Back of the Book Value
March 27th, 2009
I thought the chart below may be of interest. We compared performance results of Stanford’s investors taken from the SEC complaint1 with one of the largest stable value funds (name withheld). Stanford results in the complaint go only through 2006 and that’s why the line stops there while the stable value fund continues its upward trend through 2008.
- Please see my previous blog post [↩]
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