1 / 14

New Developments in Hedge Fund Land: Leverage, Governance and Strategy

New Developments in Hedge Fund Land: Leverage, Governance and Strategy. Jane Buchan Chief Executive Officer Pacific Alternative Asset Management Company. Contents. Section I A New Measure: Limited Liability Leverage (L3) Section II Governance: Does Good Governance Cost? Section III

faris
Download Presentation

New Developments in Hedge Fund Land: Leverage, Governance and Strategy

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. New Developments in Hedge Fund Land: Leverage, Governance and Strategy Jane Buchan Chief Executive Officer Pacific Alternative Asset Management Company

  2. Contents • Section I • A New Measure: Limited Liability Leverage (L3) • Section II • Governance: Does Good Governance Cost? • Section III • New Trends in Investment Strategy

  3. A portfolio of hedge funds has a different risk profile than that of a hedge fund with a portfolio of investment strategies (a multi-strat fund.) Section I Q: You are an investor and you want to know what the “average” leverage is in your hedge fund portfolio. The difference is the limited liability PAAMCO Limited Liability Leverage (L3)

  4. Traditional Leverage with Multiple Funds • Consider two decentralized structures: (A) 100 investments in funds each with leverage of 2 (B) 99 investments with l=1, one in l=100 • Traditional leverage is lp=2 for both structures For (A): For (B): • Which one has the lowest risk? Risk with Multiple Funds For fund (A): • If the risk factor drops by 50%, all 100 funds lose all of their value: the total loss is 100%  For fund (B): • If the risk factor drops by 50%, the total portfolio loses 50.5% only Reference: Jorion and Cherem (2010) “Limited Liability Leverage (L^3): A New Measure of Leverage,” Journal of Alternative Investments PAAMCO Limited Liability Leverage (L3)

  5. N 1 å = w i 3 L i = 1 Define now Limited Liability Leverage (L3) as the harmonic mean What is the Harmonic Mean? (Level 1 CFA)Dollar Cost Averaging, P/E RatiosPhysics – Car travels sequential same distances at different speeds. What Is the average speed for the car? l x li å 100 = For (A): L3 1/[ (1/100) x (1/2)] = 1/(1/2) = 2 i 1 = å For (B): 99 =(1/100)x1 + (1/100) x0.01]= 1/[.99+0.0001]=1.01 L3 1/[ = i 1 L3 correctly indicates that B has lower risk PAAMCO Limited Liability Leverage (L3)

  6. Bottom Line: • When computing portfolio statistics we understand that not all measures are simple linear averages (for example, the standard deviation of a portfolio.) • However, the same care that is used on computing equity portfolio statistics (remember, stocks have limited liability) needs to be transferred to computing portfolio of hedge fund statistics. PAAMCO Limited Liability Leverage (L3)

  7. Section IIGovernance: Does Good Governance Cost? • In particular, given the events of 2008, people started focusing on principal/agent issues with respect to hedge fund investments. • Some issues we discussed • Representations regarding quality, pricing, liquidity of securities • Asymmetry in fees – heads they win; tails we lose • General fee levels (Q: What is really needed to extract the economic rents) PAAMCO Governance

  8. Summary results from different governance characteristics and returns were examined using the TASS DatabasePercent of TASS database with the following characteristic There appears to be little difference between the characteristics of top quartile performance funds and the entire database. PAAMCO Governance

  9. 1994-2009 Performance Better performance is found with managers who accept managed accounts, have no lock-up, have a high water mark, and charge higher fees. PAAMCO Governance

  10. Large Institutional Investors Utah Retirement Systems • Tiered Fee Structure • Rescindment of Redemption Penalty • Performance Fee Hold Back • Hurdle Rate http://online.wsj.com/public/resources/documents/ursnote03102009.pdf CalPERS • Crystallization of Performance Fees • Adequately Financed Business Operations • Separate Accounts • Risk Information Transparency http://www.calpers.ca.gov/eip-docs/investments/bus-opportunities/rmars/rmars-memo.pdf PAAMCO Governance

  11. Section III:New Trends in Investment Strategy • Approaches and Perspectives • Investment Themes • Unusual Ideas PAAMCO Strategy Trends

  12. Approaches and Perspectives • Leverage has returned • Trying to lower the risk of the portfolio by lowering the correlation amongst positions  “event driven” trades • Capital structure agnostic PAAMCO Strategy Trends

  13. Investment Themes • US Distressed Wave is Over • But, Basel III, European banks with stressed loans to middle market companies • Post re-organization equities • Playing the government fiscal situation  short defense stocks • Potential mergers in both finance and technology sectors PAAMCO Strategy Trends

  14. Unusual Ideas • UCITs Credit funds • CLOs – they are coming back • Proprietary desks shutting down, but where will the liquidity be? Final Thought: Most common campus recruiting response “Really, my private equity background is very applicable to hedge funds.” PAAMCO Strategy Trends

More Related