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Hedge Funds, Smart Beta and Volatility Timing are Magically Delicious

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Michael Maduell, President of the Sovereign Wealth Fund Institute

Michael Maduell, President of the Sovereign Wealth Fund Institute

The first three months of 2016 has startled institutional investors and the asset management community. Many name brand hedge funds posted lackluster returns, thus giving less credibility to the name “absolute return”. Billionaire Ken Griffin’s Citadel posted a negative 8% return in its main hedge fund from the start of 2016 through March 11, 2016. A major contributor to Citadel’s recent performance losses were in the company’s Surveyor Capital group, which focuses on a global equity, long/short multi-manager strategy. Surveyor Capital has around 200 employees. In February, Citadel let go around fifteen members of its investment staff, including Jon Venetos who lead Surveyor. Did CalPERS make the right decision to leave hedge funds alone?

Smart Beta Herd

As institutional investors start to feel a bit icky from hedge funds, a number of fee-conscious asset owners float toward smart beta or factor-based strategies. These rules-based strategies often use factors such as volatility, momentum, dividends and other non-market cap measures. Investment experts warn about the crowing effect on factors. Having a herd mentality in smart beta can be dangerous and lead to investment disappointment. The ideal moment to enter a smart beta strategy is contested, but some see when a factor begins to trend higher with a market rally an opportune time to jump in versus buying late into the factor performance cycle. Asset managers are also cashing in on smart beta such as WisdomTree, State Street Global Advisors and BlackRock. BlackRock witnessed US$ 152 billion in new assets flowing to mutual funds and exchange-traded funds in 2015. Not only institutional investors are driving the use of smart beta ETFs, but so called robo-advisors. This could lead to significant excesses in factor strategies.

Yale Professors Investigate Volatility Timing

This leads to my third bit, timing volatility which is a key element of market timing (aka make money). A research study conducted by Yale assistant professors of Finance Alan Moreira and Tyler Muir, called “Volatility Managed Portfolios” discovered that taking less risk when market volatility is high, can result in large positive alphas and boost Sharpe ratios by substantial amounts. The study finds that short-term and long-term investors can benefit from volatility timing and the returns would have a material impact on performance. Some parts of the study are quite obvious, portfolios that cashed out of equities before the global financial crash of 2008 and that came back after volatility dropped post-crisis, made substantial bits of money. Yes, some sovereign funds timed this quite well.

The views in this article are expressed by Michael Maduell.
Michael Maduell is President of the SWFI.
www.swfinstitute.org

GIC Sells Arizona Biltmore to Blackstone

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Blackstone Real Estate Advisors, part of the Blackstone Group, acquired the 740-room Arizona Biltmore hotel, located in Phoenix, for US$ 403.4 million. The deal closed on April 20, 2018.[ Content protected for Sovereign Wealth Fund Institute Standard subscribers only. Please subscribe to view content. ]

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Mubadala Acquires Stake in Growing Hedge Fund Phoenician Capital

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Mubadala Investment Company, through its unit Mubadala Capital, purchased a minority stake Phoenician Capital, LLC. Although terms and size of the deal were not disclosed, the agreement grants Mubadala Capital rights to invest in a fund managed by the New York-based firm, which generated respective returns of 40.8% and 33.0% in 2016 and 2017, against benchmarks of 12.0% and 21.8% for the S&P 500. The hedge fund runs the Phoenician Offshore Fund Ltd.

[ Content protected for Sovereign Wealth Fund Institute Standard subscribers only. Please subscribe to view content. ]

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Large Asset Managers Continue to Move Operations Out of California

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In the 2010s, Fisher Investments, an investment firm run by Ken Fisher, moved a large number of employees from the Woodside and San Mateo campuses to a town called Camas in Washington, near Portland. Vanguard has a large operational presence in Arizona, while Charles Schwab Corporation has expanded its technology operations and client services in places like Denver, Dallas, Austin and Phoenix. Dimensional Fund Advisors moved its headquarters in 2008 from Santa Monica, California to Austin.

While asset managers reap profits and try to lower employee head count costs, looking to fly-over country seems appealing.

The Pacific Investment Management Company (PIMCO), part of the Allianz family, selected Austin, Texas as its new office to hire more client services and technology talent. The PIMCO Austin office will open later in 2018. PIMCO is headquartered in Newport Beach, California, with an office in New York City.

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