The days of swashbuckling hedge fund managers are over

Hugh Hendry

Hedge funds have gone from fighting the establishment to being a part of it.

That’s according to contrarian hedge fund manager Hugh Hendry, who cofounded Eclectica Asset Management.

He told Real Vision TV in an interview released Friday that hedge funds
aren’t taking the same risks they used to, and that’s hurting returns.

“Their right role is to be pirates, to be questioning, be challenging the consensus. And today, it’s more like the Royal Navy,” he said.

Hendry is a macro hedge fund manager, meaning he makes bets on macroeconomic trends and monetary policy, for instance. Investing in his firm, Eclectica Asset Management, has been a wild ride.

His firm at one time had more than $1 billion in assets after it nailed a 50% return in October 2008 at the height of the financial crisis, but now has a fraction of that. His fund got off to a good start to this year however, returning 11.6% for the year to the end of May, according to Stefanie Eschenbacher at Financial News, returning 11.6% for 2016.

Hedge funds’ lacklustre returns have long been a hot topic — on average, they have lagged the S&P500 for eight years straight, as per HFR. Hendry is saying that’s, in part, because they’re not willing to put up with volatility. He said:

“They have become hostages to the Sharpe ratio. The great redistribution of wealth from clients to hedge fund managers was predicated on … a unique period in time where you had immensely high Sharpe ratios, which is to say you were making money with very little drawdowns. The passage of time was less onerous and it was profitable. By and large, that is gone.”

The Sharpe ratio is a measure of risk-adjusted return, and what Hendry is saying here is that hedge fund managers made a lot of money is a favourable environment, and that those days are over. Hendry added that given many funds have gotten so large, they don’t need to worry about knocking it out of the park with high returns.

The standard hedge fund compensation model is 2 and 20, where the hedge fund takes 2% of assets and 20% of returns. That means that a fund that has $10 billion in assets can make $200 million before worrying about performance.

Here’s the relevant excerpt:

“It has left some of these managers managing billions of dollars, and of course the potential corruption is just take the carry. The manager gets the carry. And if you deliver … and just retain the assets. And so there is an element of the hedge fund community which has gone from being, their right role is to be pirates, to be questioning, be challenging the consensus. And today, it’s more like the Royal Navy.”

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