Even as the S&P 500 is up a solid 13.43% through the first 10 months of 2012, the all-stars of the hedge fund world continue to drop like flies.
This past week, the shooting star of the London hedge fund scene, Australian Greg Coffey (AKA the “Wizard of Oz”), announced his retirement at the ripe old age of 41. Coffey, who famously left a $250-million bonus on the table at European hedge fund GLG back in 2008, exited Louis Bacon’s Moore capital management after his $1.6 billion GC fund had dwindled to around $100 million.
Coffey joins a long line of investors who have thrown in the towel since the onset of the financial crisis. Their ranks include George Soros, Carl Icahn, Stanley Druckenmiller and dozens of others. In the mutual fund world, Bill Miller of Legg Mason retired after the subpar performance of his flagship fund during the past few years.
And it’s not like the money managers who have stayed in the game are exactly hitting the cover off of the ball, either. Coffey’s former boss Louis Bacon returned $2 billion to his investors in July after conceding he was confounded by the markets. John Paulson, the subject of the book “The Greatest Trade Ever,“ has also lost his magic touch, with his flagship Advantage Plus fund down another 19% this year. Fidelity star Anthony Bolton, the United Kingdom’s answer to Peter Lynch, was also humbled last year after his new China fund fell 28% in six months.
These hedge funds aren’t the industry’s one-hit wonders, either. They are, in fact, the “Babe Ruths” of the hedge fund world. No wonder this subpar performance has left investors scratching their heads. After all, with the S&P 500 doubling since it bottomed in March of 2009, you’d think a monkey throwing darts at a Wall Street Journal could be making more money. And you’d probably be right.
The Rise and Fall of Greg Coffey
Louis Bacon, founder of Moore Capital, one of the original great hedge funds, and who has his London digs (Okay… more like a palace) right around the corner from me, once described Coffey as “one of the most impressive traders in the world.” In 2012, Moore raised more than $1 billion for a new fund, called GC Moore, (the “GC” standing for “Greg Coffey.”)
Alas, the lofty hopes attached to Coffey never really materialized, as he struggled to replicate his earlier eye-popping returns. This year, the GC Moore fund is down 2% after a big rally in September. Two other emerging markets funds Coffey managed are down 16% and 2.3%. That compares with the MSCI Emerging Markets Index’s return of 8.91%. Overall, Coffey’s track record at Moore reportedly averaged annual returns of 4.7%. That compares with his overall track record of 22.7% since 2004.
Hedge Funds Are Funds Struggling: Here’s Why
Up until 2008, hedge funds had a fantastic run. Since then, making money in the markets has become immeasurably more difficult. Hedge fund managers achieved most of their big returns before 2008. Coffey himself made almost all of his money during 2005-2007. Thus was born the myth of infallible superstar traders, who tempted investors to pay them billions for their investor acumen.
But as any old trader on Wall Street will tell you, “never confuse brains with a bull market.” And a bull market is not what we’ve had in the past five years.
S&P 500 versus EAFE
The U.S. stock market has still not regained the levels it saw five years ago on this day. The MSCI EAFE Index, a stock market index that reflects market performance of developed markets in Europe, Australasia and the Far East, is still down well over 30% from where it was trading at the end of September 2007. And the end to end comparison masks the stomach-churning 15-20% drops that market endured in a relentless, “risk on,” “risk off” environment.
So why has this environment confounded the biggest (or at least luckiest) brains in finance? The rise of computerized algorithmic trading is one possible explanation. Algorithms now account for 75% of all trades on U.S. stock markets, with the average stock held for just 22 seconds. Others point to the democratization of information. The Internet ended the advantage traders had of getting information before other people. You now have access to infinitely more information on your iPhone than George Soros did at the height of his powers in the 1990s.
The real culprit, I think, is the relationship hedge funds have to risk. Hedge funds are focused on the downside to a degree it’s hard for most investors to imagine. At SAC Capital, if a portfolio manager is down 5%, she loses half of her money under management. If she loses 10%, she is shown the door. Apply that same standard to your favorite broker, and see how long he’d last.
For retail investors, “buy and hold” remains the dominant investment mantra. And it’s also the strategy that has worked best since March of 2009. But after a paradigm-shifting 2008, hedge funds are “once bitten, twice shy.” They are (rightly) focused on the downside risks — whether financial contagion from Greece or another “Black Swan” event which they cannot predict.
So, staying “dumb and long” in the U.S. stock market, while ignoring the dips, has been the single-best investment strategy over the past three-and-a-half years.
At the same time, if you are of a contrarian bent, so many hedge fund managers exiting the market may be the ultimate bullish sign. And soon there will be new “Greg Coffeys” emerging on the hedge fund scene, unscarred by the events of the post-financial crisis.