Hedge fund investors have 20/20 hindsight

Date: Wednesday, May 14, 2008
Author: Simon Osborne, Asian Investor

Deutsche Bank’s exhaustive 2008 Alternative Investment survey would have electrified us if its predictions had been published a year ago. As it is, hedge fund investors aren't showing great foresight for the coming year. When US vice-president Dick Cheney was recently told that a survey of Americans opposed the Iraq war, he replied: ‘So?'

Who would be a pollster or a pundit?

Deutsche Bank has just carried out its 2008 Alternative Investment Survey. This was a comprehensive undertaking in collating data. Deutsche polled 1,000 respondents from 500 institutions. This was proper market research; unlike, say, the infamous survey undertaken just after the start of the Gulf War, which deduced hundreds of thousands of deaths from just a few hundred research interviews (less data-points than you'd use to poll a high school).

Deutsche polled people managing a trillion dollars in assets. 40% were from funds of funds managers and 22% from family offices.

The survey seeks to read the runes for the future, but the results show the investors trotting out many banal platitudes, putting into doubt their qualities as visionaries.

80% say they are bearish for this year. Only 7% reckon 2008 is a year for the bulls. Yet, presumably not wanting to sour their own well, they still reckon that $200 billion of investor cash should find its way into hedge funds this year. Fair enough, there are many ways of explaining that apparent cognitive dissonance; but most likely had they been asked specifically for a rationale, they would have chosen the least convincing reason –their superior skills of hedge fund selection. (Incidentally, every single fund of hedge funds claims to possess above average qualitative due diligence skills, which of course is statistically impossible.)

The choice of hedge fund strategy that respondents think will perform well this year doesn’t seem to show any great prescience. They’re pulling for volatility, distressed, credit long/short, commodities and kicking-out at merger arbitrage. Namely, they are all the strategies that have been in the spotlight in the last six months. Nostradamuses one-and-all then? I predict not.

In terms of the qualities sought in a hedge fund manager, ‘risk management’ jumps up the box-ticking league tables to number three, just behind performance and investment philosophy. Risk management is so important now for hedge fund investors that it ranks even higher than ‘pedigree’. Risk management, they muse thoughtfully, deserves a double thumbs-up.

The hottest new geographical sectors are earmarked as Middle East/North Africa, Latin America and Russia. Clearly investors have noticed that hydrocarbons are now in demand. One hopes they were also long oil before it doubled in the last year.

The investors answered the Deutsche questions in March 2008. Are investors really so stultifying in their outlook for the rest of 2008, or did they just misread the questions and write down how they would like to have handled the last six months if top quartile performance had been their mandate?

Every investor presumably wants to find the innovative hedge fund manager, the theme originator. One similar to, say, John Paulson before he shorted the ABX over a year ago.

The trend-following answers within Deutsche’s laudable survey imply a herd approach among investors, coddling last winter's themes. It is the mentality of the bandwagon, and that can’t be good. Perhaps we're taking the survey too seriously, but it is certainly not intended as a light-hearted document, so readers have to take it at face value about how investors really are calling the future.

On a positive note, let’s hope that among the unreported outliers in the hinterlands of the survey, there are fresh thinkers lurking, destined for media praise (also operating with the benefit of hindsight of course) in the future.