I woke up way too early this morning (against my will). I decided not to fight it and instead used it as a chance to catch up on the reading that has been piling up. Part of the pile was three days of newspapers (the fourth just hit my front step). It was kind of interesting to read them in sequence - all at the same time. A couple of thinks jumped out at me.
The coverage of the Amaranth hedge fund blowup seems out of proportion with the event. According to what I've read, the fund is down 35% for the year after their leveraged bets on natural gas went against them. While Amaranth is a good sized hedge fund, there is nothing in this story that should surprise us. Amaranth is in a segment of the hedge fund world that regularly swings for the fences. This strategy makes total sense in light of the industry's compensation structure. If you bet big and win, you make a pot full of money and gain new clients. If you bet big and lose, you close shop, take a few months off to ski or golf, and then start a new firm and try it again. Why is it then that when we hear about a fund going up 80% in one year, as we often do, we're amazed, but not alarmed? It's a one day story carried on page 8. But when one goes down a whole bunch, we are subjected to the shock treatment and forced to read about it over many days.
On a positive note, the newspaper binge made me feel really good about Steadyhand's investment philosophy. Our equity funds will be absolute-return oriented and focused on our managers' best ideas. By absolute-return oriented, I mean they will be intent on making our clients money (i.e. positive returns), not trying to beat an index (relative returns). They will also be high conviction portfolios with relatively few stock positions. My comfort with this approach was reconfirmed by the Post's multi-day roundtable discussion on small-cap stocks. While skimming this series I came across a couple of references to the "index". I know that not all five of these top-flight managers fit this comment, but I can't help think that when managers have an eye on the industry weightings of the index, they are diluting their long-term returns. They end up owning stocks they don't like very much. The fact that income trusts make up 35% of the index is not a reason to have 25% of the portfolio in them. If a portfolio manager has a quarter of my portfolio in something, I want her jumping through the ceiling yelling "these are screaming buys." For a manager who is index conscious, however, a 25% weighting in trusts is a negative bet (versus the 35% index weighting). It says that he doesn't like their prospects or valuation very much. Go figure - a quarter of the assets in securities that aren't very attractive.
Maybe I'll try going back to bed.