A similar thing happened with Bear Stearns. It beat the market consistently every month... until it didn't. IIRC it blew up very very quickly.
This is the same issue with these ridiculously high "guaranteed" returns on DeFi lending.
Any significantly above market returns of any kind are either a scam or have risks that are either not understood or not disclosed.
I'm honestly surprised the hedge fund industry has survived so long and grown so large. In some cases you get to invest in a market you otherwise couldn't access but it seems like long-term returns underperform passive investments in most cases.
Here’s a few other interesting resources to better understand Cathy Wood. The charges against Bill Hwang are illuminating, and one thing he did was buy very illiquid stocks and squeeze the prices higher, which created a self reinforcing effect of raising the price when markets were going up, but ultimately caused the collapse of his fund when they reversed. The full charges are interesting: https://www.justice.gov/usao-sdny/press-release/file/1497216...
ARK is similarly invested in very illiquid positions. Hwang was one of Cathy’s initial investors, and there’s reason to believe they share some similar views. Both are devoured charismatic Christians. An write up on Cathy Wood highlighting her approach to investing: https://www.ft.com/content/a93f4de2-35d2-44e1-a6a1-0000cba0d...
> "Any significantly above market returns of any kind are either a scam or have risks that are either not understood or not disclosed."
By definition, the market return is an average, and there must be returns above and below the average. You could say above market returns require taking above market risk, but often times the level of risk you are taking is not known for certain at the point in time you make the investment.
Also, the hedge fund industry's goal is not necessarily to beat the market, it is to provide the highest level of return per unit of risk.
> Also, the hedge fund industry's goal is not necessarily to beat the market, it is to provide the highest level of return per unit of risk.
This is every investment, not judge hedge funds. Every asset has a risk profile. Generally speaking, the higher the risk, the higher the return.
US government T-bonds have a low return because they're viewed as essentially risk-free. Put another way: the US government has never defaulted on a debt and that debt is backed by the US government. It's not that a default can't happen but if it does, we probably have larger problems. So low-risk, relatively low return.
Individual stocks on the other hand have much higher risk. So the return can be much greater but you can also lose all your money.
Funds reduce risk by splitting investments across a pool of assets. This reduces risk but also reduces likely returns (both positive and negative).
When people compare actively managed funds (including hedge funds) to passive funds (eg S&P 500 weighted fund), actively managed funds overall underperform passive funds for the same asset classes and risk profile.
That means you compare an equity hedge fund to other equity funds. This also means whenever we talk about average returns we actually mean average returns for that risk profile and asset class.
This isn’t true, the US has defaulted or suspended payment multiple times going back to the Revolution when it was the Continental Congress, the War of 1812, the Civil War, and more recently in the 20th century through many artful disguises to avoid technical default.
> By definition, the market return is an average, and there must be returns above and below the average.
Agree, but those returns well above average, could be tomorrow's well below average. (And the ones well below average today were yesterday's well above average.)
So it can still be the case that the ones significantly above market and significantly below market are one and the same.
Better put, since a peak can't be predicted, is that a fund with outsize performance last year will likely underperform this year.
I remember Janus' ads running a victory lap about one fund with a >100% return in 2000, only to have ads talking about how to stay strong and deal with "uncertainty" or something after the crash.
> the hedge fund industry's goal is not necessarily to beat the market, it is to provide the highest level of return per unit of risk.
So basically you are saying a hedge fund is just optimizing for sharpe.
That is not true. Sharpe is just one way to compare performance at the same level of vol. It's a useful metric but very limited. It tell you nothing about exposure, risk and distribution.
I discussed how hedge funds position themselves here:
> Any significantly above market returns of any kind are either a scam or have risks that are either not understood or not disclosed.
Before computers were widespread there used to be niches where outsized returns did exist, but just too small for large professional investors to bother. Like a once a month mis-pricing that you could make a few thousand on, max, due to low liquidity.
Hilariously enough, that’s exactly how the most famous “value” investor Buffet started out: convertible bonds arbitrage. So much for “buy and hold undervalued but very good companies forever ” lol.
He eventually grew out of that niche and became too big, so he had to develop a new image to sell to his LPs/investors and move on to bigger things.
I have a hunch that the hedge funds proliferation in some part is due to the availability of speed and compute. Today you can leverage machines to exploit a million small niches, and lots of funds are doing just that. Tons of mini buffets around, they just can’t grow as big anymore, or at least with much lower frequency.
But, notably, only with their internal, smaller fund that only partners and employees can participate in. Which has presumably driven interest in their large funds open to the public, which have not performed anywhere near as well as the internal fund.
Hedge funds are more a tax vehicle than a true investment. The first scam is the managers can take 15, 20, 25 or 30% of all profits monthly and then carry that part that is then the managers forward tax free even multiple trades or move from options to farmland etc. The other scam is they can do short term trades, which if you do is taxed like income w the marginal rates and combined w your other income. The hedge investors get their short term trading gains as if they were long term gains. This is all done w she'll companies and an accountant's "hand wave". So the manager is still ahead as she keeps whatever is left of those carry forwards.
Career hedge fund trader here: this is nonsense. Of course HFs are tax optimized but saying they are not investment vehicles doesn’t even align with your view. If they aren’t true investment vehicles which generate profits, then there is nothing to protect from taxes…
Your premise is based on funds making a lot of money, which they want to shield from taxes. How do you think they make money? (Caveat: most HFs underperform, but that’s a different issue entirely)
> I'm more interested in this phenomena with hedge funds treating short term cap gains as long term.
I think what GP means is, your fund has some trading profits, which if an individual did the same trades would be taxed as earned income or short term gains, but the fund actually doesn't have profits or pay taxes at all - it's a pass through entity. You, as an individual investor in the fund, pay taxes (long term or short term cap gains as appropriate) when you exit your investment in the fund.
This is a pretty reasonable way for capital gains taxes to work. The secret sauce successful hedge funds have is not access to this tax optimization, but some way to actually generate those trading profits in the first place.
Manufacturing a fake loss with a false valuation is not the same thing at all - you've just said that "if you can do fraud, then sure there's money to be made from losses". Fraud makes money? Sure! Losses do not.
It is literally a thing. I cannot for the life of me make sense of how to make it work that doesn't strike me as off, but enough people get utility out of the moniker that it's got a page. So...
Tax loss harvesting is real, you just time when you take a loss to offset a gain. Then immediately reinvest. You haven’t lost any money in total, you can just claim the loss on your taxes (but will pay higher capital gains in the future).
>A similar thing happened with Bear Stearns. It beat the market consistently every month... until it didn't. IIRC it blew up very very quickly
Very subtle difference,though. I am simplifying things here but IIRC, Bear Stearns blew up because they wrote insurance for things they didn't think would ever happen (housing mkt going down) and had a lot of exposure vis-a-vis how much premium they collected (i.e. sold a put -- limited upside , unlimited downside).
I doubt ARKK has _written_ put options. It might be the case that the value of the ETF will go down drastically but they won't go bust because of liabilities.
Long Term Capital Management is an interesting related story. They severely miscalculated the potential risks of what they were doing (both illiquid and very leveraged at the same time).
I was reminded of this because Bear Stearns was actually the only major player that refused to bail out LTCM [1], which pissed off a number of other firms. I don't know if the institutional memory was long enough for this to impact Bear 10 years later, but it is ironic they were looking for a bailout after being so adamant about not participating in one.
To your point, the main LTCM crew raised money to start a new fund only a couple years after their disastrous failure. People were willing to gamble millions on these guys still!
ARK is like a gambler who won his first lucky bet on a horse in life (TESLA), got hooked on gambling (growth stocks), made some incredibly stupid bets and is now in complete denial when markets turned against him..
LTCM did some novel and sophisticated stategies (for a time), realized the markets got too shallow for its strategies, returned most money to investors and lost liquidity due to black swan event. It is too easy in hindsight to tell they should have known better.
If you want better comparison for Cathy it is Bill Ackman's Persing Square Capital Management buying Netflix in euforia without any analysis and dumping the stock in panic 4 months later, loosing 400 mllion dollars..
I don't doubt LTCM was smarter at the start. But I don't think it takes hindsight to say that it's a stupid idea to put your entire net worth in one fund and then take out additional personal loans to put even more. One of the main dudes was like $30 million in debt after the whole fiasco!
Also FWIW the next fund that the core group started didn't last much past 2008. I think it's fair to say they were wrong about the amount of risk they were taking.
But yeah the initial bets were smart and not "gambling". The problem is the insanely big and leveraged positions they took and continued to build even while their core business was clearly shrinking. Especially the way they dove into markets they were less knowledgeable about, at least the way the book presents it they did not do their homework on e.g. merger arbitrage in the way they had with the bond market.
IMO they totally got cocky too, even if they got cocky for a better reason.
Remember when Chamath Palhapitiya was claiming he's the new Warren Buffett on CNBC. Blew up a lot of retailer investors funds through his SPACs although he himself Madeoff quite well given the closing conditions.
> when Chamath Palhapitiya was claiming he's the new Warren Buffett on CNBC.
I don't remember that. I watched a few of his videos. Seems like rational statements explaining why Warren might be wrong about Bitcoin. https://www.youtube.com/watch?v=RAvYvyj37UU
> Blew up a lot of retailer investors funds through his SPACs although he himself Madeoff quite well given the closing conditions.
I was not aware of that. That's a pretty strong accusation you're making there, it sounds like he committed crimes. Do you have a link to substantiate this?
> I was not aware of that. That's a pretty strong accusation you're making there, it sounds like he committed crimes. Do you have a link to substantiate this?
A lot of his SPACs are trading under their initial price of $10/share.
Here's 3 examples: CLOV, SPCE, SOFI. If you bought in during the SPAC stage or at IPO, you'd have lost quite a bit on any of these.
> Blew up a lot of retailer investors funds through his SPACs although he himself Madeoff quite well given the closing conditions.
does not seem to be comparable or descriptively equivalent to this part:
> CLOV, SPCE, SOFI. If you bought in during the SPAC stage or at IPO, you'd have lost quite a bit on any of these.
Was your reference to "Madeoff" intended to convey a ponzi scheme? Because that doesn't seem to be what those investments are.
Instead googling indicates these are real companies that appear to be operating, albeit in challenging businesses.
Here's what I found:
CLOV Stock: Is It A Good Long-Term Opportunity?
Clover Health is a former SPAC that became a penny stock. At the $2-3 level, could CLOV be presenting a decent long-term opportunity?
Bernard Zambonin and Guest Contributor
May 23, 2022
SoFi Technologies, Inc. is an American online personal finance company and online bank. Based in San Francisco, SoFi provides financial products including student and auto loan refinancing, mortgages, personal loans, credit card, investing, and banking through both mobile app and desktop interfaces.
Premarket Mover: Virgin Galactic Holdings Inc (SPCE) Up 1.65%
He said that Metromile was going to be his GEICO, thus implicitly comparing himself to Buffett. Those SPACs did turn out to be garbage, but I still find them somewhat interesting at least when viewed as a financial innovation.
This is the same issue with these ridiculously high "guaranteed" returns on DeFi lending.
Any significantly above market returns of any kind are either a scam or have risks that are either not understood or not disclosed.
I'm honestly surprised the hedge fund industry has survived so long and grown so large. In some cases you get to invest in a market you otherwise couldn't access but it seems like long-term returns underperform passive investments in most cases.