Learning from hedge fund legends and other leaders

Last week I had the great opportunity to attend a huge conference in sunny Las Vegas for the alternatives investment industry.  Organized by Skybridge, the conference attracted between 1500 to 1800 attendees including speakers, managers, service providers, and investors which include family offices, fund of funds, corporate treasurers, universities, pension plans, endowments, foundations and other institutional investors.  The conference has the reputation of a Davos for hedge funds, and the planning, speakers lined-up and execution were excellent. 

There were many interesting speeches and a few ideas stuck with me:

Macro themes:

• Views by economists on the 2H and 2012 growth prospect of the U.S. economy and the outlook for the S&P index were as contrasting as day and night though there is no doubt that corporate credit/cashflow/profitability (40% of the latter is coming from overseas) is very strong, which is a catalyst for more capital expenditure and stronger aggregate demand.
• Macro factors have been driving performances in most investment strategies, and have overwhelmed equity fundamental long/short portfolio; however more managers are expecting lower correlation of asset classes going forward, with increasing dispersion of performance within sectors, and a better environment for bottom-up or event-driven strategies, and therefore alpha-seeking.
• A Harvard economic historian is warning last 500 years of Western dominance is ending with key decisions going to be taken in Asia (China/India) and not the West in the next 20 years. A similar warning is made by Milken Institute that while U.S. consumers are spending almost 50% on housing and transportation but 2% on education, Asia is focusing more much on education, about 15%; and the 21st century is about development of human capital.      

Hedge fund operation and business:

• Hedge funds need to acquire institutional quality in the areas of back office, capital raising, independent fund administration, internal control and audit environment.  About 70% of the capital flow for hedge funds come from institutional investors which demand robust system and information that is repeatable, reliable, inventoried, audit-able and consistent. The latter means hedge funds need to move away from Excel spreadsheets for tracking performance and risk but build a repeatable and control process that can be shared.  
• For best practices of hedge funds, Merlin Securities in their white paper on "The Business of Running a Hedge Fund" suggests that those hedge funds that operate within the "Green Zone" of revenue/expense versus assets under management (AUM), which means funds which keep their fixed expenses lower than their management fees rather than rely on an out-sized performance fee, have a better chance of weathering downturn and surviving for the long term. 
• On top of data transparency, investors are insisting on "social transparency" - the culture and type of characters of managers investors are dealing with are very important.
• Be very good friends with capital introduction group. 
• Think about the behaviour of your investors especially in a downturn.

From hedge funds legends and leaders:

- On building culture and an institutionalized business:

• Important to understand what your values are and make sure all employees understand these values.  Alignment of firm with leader is key to success of firms.  
• Keep a team P&L and emphasize team effort, collegiate culture, common sense, pollination of ideas and employee self-improvement.
• Put process before outcome - investing, recruiting, and training all need to be consistent.
• Use crisis to build up talents, infrastructure and trading systems.  The head of Skybridge who was the chief organizer of the conference told how Skybridge in 2009 was almost "a blown-up Bridge" as the fund of funds business was deeply declining. Yet, he made a "marketing offensive" and took the cue from President Obama who suggested citizens should invest in the stock market in 2009, and launched the first Skybridge conference in Las Vegas to stimulate jobs there and to tell everyone out there that Skybridge is still alive.  Skybridge is now running $8bn in AUM and the number of conference attendees jumped from 400 in 2009 to almost 1800 this year.

From the World Leaders:

• The highlight of the conference was CNBC Melissa Lee's interviewing President George W. Bush, who was promoting his recent book "Decision Points."  It was heart-warming to hear how President Bush made decisions during the 2008 financial crisis.  President Bush, who did not know anything about the "TED spread" praised and gave his complete trust to his Treasury Secretary, Paulson as well as the Central Bank.  He also made the point the way to combat global terrorism is to promote democracy and freedom. "The long-term solution is to promote a better ideology, which is freedom.  Freedom is universal."  The presidential comment won a big round of applause.  
• It was fascinating to hear former U.K. Prime Minister Gordon Brown cheering for the U.S., praising U.S. outright as the most innovative and dynamic country in the world, and urging U.S. to keep up with the optimism to recover and dig out from the fiscal mess.  PM Brown also did not believe that the Euro would break up as the European Union was a political decision from day one.

From Freakonomics' authors:

• One should take time to think, to develop insights and ideas which is particularly important for hedge fund managers who should go find something to distinguish himself or herself, often the less desirable the better.
• Discussed declared preferences vs. revealed preferences - ideas come from data, but in understanding data, you need to know what really happens in real life versus what other people want you to know. 

Graduation speeches

Reading the recent commencement address to UC Berkeley Haas School of Business MBA Class of 2011 by Barbara Desoer, I flashed back to my own graduation ceremony from the Haas School umpteen years ago.  At that time the commencement speech was given by one of the most powerful men in Silicon Valley, Andy Grove, then Intel's CEO.  I do not remember much of his speech but I remember very well how I felt after the speech - intimidated - that I have to be prepared for a dog-eat-dog world, and I had better understand how "only the paranoid survive." Ms. Desoer speech was much less of a warning of the competitive reality but more of a sharing of her values which are very enlightening.

In particular, while I am a bit shocked to hear her advocate "single-tasking" in this world where everyone champions the need of multi-tasking, I am secretly agreeing whole-heartedly what she is saying.  What follows is part of her beautiful speech, and I think the most important to me:

QUOTE
Which brings me to my last word of advice - value. There is a horrible modern phenomenon that I am going to beg all of you not to fall prey to – multi-tasking. It may seem like you’re being more productive, excelling at time management, and impressively dexterous - texting, tweeting, listening to a commencement speech – all at the same time.

But, I’m convinced as a society we’re more anxious and stressed because we’re trying to do too much at once – and in doing so end up doing none of it as well as we could. So, I’m going to champion single-tasking.

Focusing your mind, time and energy – to bring the full value of what you have to offer to the task at hand, to your passions, your family, and your community. To be fully present in all your endeavors. To make courageous choices – deciding in the face of competing demands where you will get and give the most value.

Strive to bring value to those around you, to make a difference for those in need, to give back out of the abundance each of you has been given and in so doing earning rewards more enduring than career accolades.

Because, what really matters in life is connection – not connectivity. Relationships – not quantity of Facebook friends. Investing in people and communities – not investments.

A quote that has always had meaning for me and I keep above my desk is this one by Maya Angelou: “I’ve learned that people will forget what you said, people will forget what you did, but people will never forget how you made them feel.” A great example of value in your relationships.

UNQUOTE

Confusion on inflation

Several days ago, I attended a meeting with the Chief Strategist of BCA Research, an independent research house, to discuss key issues in the economic and financial outlook.  The biggest debate between the audience and the speaker was about inflation. 

Based on BCA, there are three mechanisms that drive inflation: (1) monetarism - too much money chasing too few goods, (2) cost-push - rising input prices force companies to raise prices and (3) demand-pull - an economy growing strongly will give companies more pricing power and workers more wage bargaining power.  But BCA does not think the U.S. has an inflation problem (at least for near-term), and pointed out the evidence of subdue broad money (M2) growth and bank lending growth, small impact of rising food and commodity prices on final output prices, and the slack and high unemployment rate in the economy is preventing wages from rising, which means with rising food and commodity prices, workers are cutting back on other spending items as workers cannot demand higher wages.

The U.S. Federal Reserve (Fed) focuses on core inflation (consumer price index stripping away the more volatile components of food and energy) as a better predictor of future headline inflation.  Core inflation averages about 1.5% in Q1 2011, lower than the 2% target of the Fed. This has invited lots of criticisms as if the Fed presidents do not eat or do not drive as rising food and commodity prices are clearly eating deeper into consumer's income and headline inflation is rising towards 3%.

The Atlanta Fed president, Dennis Lockhart, did make an important point about inflation confusion in his February speech:

"Let's review what inflation is and is not. Inflation affects all prices. Inflation is not the rise of individual prices or the rise of categories of prices.
"I want to contrast inflation to the cost of living. In casual language, we often interpret a rise in the cost of living as inflation. They are not the same thing. Cost-of-living increases are a result of increases in individual prices relative to other prices and especially relative to income. These relative price movements reflect supply and demand conditions and idiosyncratic influences in the various markets for goods and services. If some component of a household's cost-of-living basket goes up in price, the higher cost of living is not ipso facto inflation."

Since the Fed cannot control cost of living or the movement of individual prices, "so monetary policy is not about preventing relative price adjustments dictated by market forces. It is about controlling the broad direction and pace of change of all prices across the economy."

Given the U.S. Fed is targeting both stable prices and high employment, and they believe commodity and food inflation are temporary, and that the economic growth is not bringing up job growth, US Fed Funds rate will remain low in the foreseeable future, at least this year, even with QE2 ending.   Clearly inflation pressure (caused by monetary, cost-push and demand-pull factors) in the emerging countries of China, Brazil etc. are much more serious.  With fundamentals continuing to be favorable for commodities, it is not surprising to see the policy maker starting to be more serious in using currency to fight inflation e.g. faster rising Chinese Renminbi.