In Case of a US Default...

Since the dawn of time, US Treasuries have always been regarded as a risk free asset.  The budget battles in Washington D.C. are causing some investors to re-consider this as a technical default may occur.  Some large investment firms are buying credit default swaps against the US.  This is insurance against a default of US sovereign debt.  The buyer pays a periodic rate to the seller.  The seller is obligated to reimburse the buyer for the debt at par if the US should default.  A default may be not making a payment or breaching a condition of the bonds.  The definition is part of the terms of the swap.  Another way to hedge against a US default is to buy assets from countries with economies based on commodities, commodities themselves or emerging markets.

The source for this post, where more details are available, is here.

Reflection from the Technology Bubble

During the technology bubble in the late 90's, some investments banks created a theoretical profit and loss statement based on the performance of their IPOs. Because many deals doubled or tripled during the craze, some of the profits were astronomical.  The sales force was encouraged to "request" that buyside clients' trading commissions be two to three times the theoretical profit.  Following that metric produced projected annual sales credits that were above what the firms normally paid.  So, sales management and the investors worked out a deal.  To generate the desired ratio, institutional clients would pay trading commissions about the standard rate i.e. instead of a normal $0.05 per share, the commission would be $0.10 per share.  The bank's sales management cleared this with the legal and compliance department.  After the investigation, legal and compliance admitted to signing-off on this arrangement but thought it was only for a few firms.  It did not know that it would apply to many firms.  In the end, sales management was fined and suspended for a few months.  I do not know if anything happened to legal and compliance.

How to Invest in Asia

Bob Howe manages a small fund with $5 million in assets under management called the Akamai/Opera Pan-Asia Fund.  He is the Founder and CEO of the Geomatrix group.  In previous lives, he has worked as a technology analyst for Latin American companies for T. Rowe Price and Chief Investment Office at AIG Global Investment Corporation in Japan.  He concludes that Asian investment is filled with black swan events that jolt the markets.

If the investor is long only in Asia, Bob says the equity investor is better off buying US stocks.  Asian markets have bear markets every five years where 55%-80% losses are experienced.  US markets outperform Asian markets by three percent when comparing US and Asian five year rolling returns over the past twenty years.  Bob says to invest in Asia only when hedged.

He gives views on five Asian markets.  He is long Japan and short Australia, China, India and Korea.  The country is more important than individual sectors or stocks.  In emerging markets, they are affected by large scale events such as foreign investment flows and liquidity.

The full article is here.

Winners of Institutional Investor's US Investment Manager Awards

Over 1,000 institutional investors were polled to rank the top three money managers in 23 asset classes and strategies.  Some of the categories and winners are listed below.  For more color and opinions from them, go to this article.

Money Manager of the Year - Gamco Investors
Mutual Funds Manager of the Year - Fidelity
Growth Equity - Turner Investment Partners
Large Cap Equity - T. Rowe Price
Midcap Equity - Artisan Partners
Emerging Markets Equity - Lazard Asset Management
Equity Index - Northern Trust Corp.
Fixed Income Index - Vanguard
Core Fixed Income - PIMCO
High Yield Fixed Income - Loomis Sayles
Cash Management & Short Term Fixed Income - JP Morgan
REIT - Cohen & Steers
Commodities & Energy - PIMCO

Insider Trading: Rajaratnam Found Guilty

Raj Rajaratnam of the Galleon Group was found guilty of nine counts of securities fraud and five counts of conspiracy to commit securities fraud.  He will be sentenced on July 29th and is likely to spend 15 1/2 to 19 1/2 years in prison.  US prosecutors won the case by going through Galleon's trade records, testimony from ex-employees and sources and recordings of 30 calls.

The initial article can be found here.  I am sure there will be news articles and analyses in the coming weeks.

Last Week's Move in Oil Prices

Reuters published a special report on last Thursday's move in the oil markets.  It appears that negative news caused oil prices to dip slightly.  The factors were:

• People taking profits from the previous five months' run-up in prices
• Goldman Sachs and Roubini Global Economics putting out negative opinions
• Rumors that George Soros was unwinding his commodity positions
• The spectre of Quantitative Easing 2 by the Federal Reserve ending on June 30th
• Tighter monetary policy by China

When prices hit a certain point, black box computer algorithms placed orders to sell oil which formed a negative feedback loop.  As prices fell because of selling, they triggered more sell orders that lowered the prices even more.  Then additional sell orders were placed...

Several famous fund managers had big losses last week.  Andrew Hall's Astenback fund lost 12%.  Clive Capital lost 8.9%.  Man Group's AHL Strategy lost 5.3%.

Smaller Hedge Funds Are Attracting Investors

Emerging hedge funds are attracting interest from pension fund investors such as the California Public Employees' Retirement System (CalPERS) and the New Jersey Division of Investment.  Smaller hedge funds that manage less than $50 million returned 13.1% annually for the last 15 years through 2010.  Compare this figure with an 11.62% return for funds with more than $1 billion in assets under management and 10.23% return for the HFRI Fund Weighted Composite Index.  Pension funds are also mimicking the hedge fund of funds business model by seeding these new funds and getting a share of their profits.  So, they are getting investment returns and participating in the incentive fees.  Seeders invest for the long term and usually have a two to three year lockup on their capital.

The largest hedge funds receive about 90% of the investment dollars.  Many investors are worried about capacity issues as they swell in assets under management.  After 2010, the more successful funds have recovered from the credit crisis and are closing their funds to new investors.

Some firms that specialize in seeding fund of funds and investing in emerging funds are Busara Advisors, Reservoir Capital Management, Protege Partners, Blackstone Alternative Asset Management and Larch Lane Advisors.

The source for this article can be accessed here.

Active vs. Passive Investing: What Investors Are Doing

A survey of institutional investors by the money manager Janus Capital Management said that they were increasing their investments into actively managed funds.  63.3% of investors believed that active managers can outperform their benchmark indices.  They needed to generate returns above the market (alpha), meet plan return assumptions, re-allocation of capital, increased confidence in risk management of fund managers and improved market conditions.  On the other hand, investors planning to decrease investments with active managers have less confidence in the managers' risk management procedures, did not like the high fees and underperformance of the funds.

However, the data from the survey is not consistent with fund flows.  The eVestment Alliance Passive Fixed Income universe has been positive in four of the past five quarters.  One consultant noted that passive fixed income returns would be "challenged" as credit spreads have narrowed and investors can counter that by investing in active fixed income.

Managed Futures: An Asset Class?

Hedgeworld alerted me to an article regarding the question:  Is Managed Futures an Asset Class?  In an earlier post, I had mentioned that it was according to the curriculum for the CAIA program.  The article defines an asset class as "...investment opportunities that behave and are treated in a similar manner."  The four characteristics are:    common regulatory guidelines, large amounts of assets under management, singular performance when compared to other asset classes and common risk/return profile within the asset class.  The first three answers are definitely yes.  The fourth is a maybe.   Even though the performance of managed futures sub-strategies are not correlated,  they all have position level detail, separately managed accounts and liquidity.  The article then goes on to rebut three counterarguments:

• Not all managed futures strategies react to market events in the same way
• Managed futures' underlying assets include stock indices, currencies and bonds and not only commodities
• Performance is not easily replicated within managed futures space

Roubini Speaks: Another Asset Class Falls

On Thursday, Shelley Goldberg, the commodities strategist at Roubini Global Economics, recommended that investors take some profits on their positions.  There was fear that the recent price increases were overdone.  She was predicting a retrenchment before commodities will resume their upward trajectory.  The Reuters-Jefferies CRB Index, one of the commodity indices, fell 5% on that day.  Oil, natural gas, silver, copper, tin, cocoa and coffee cratered.

The reasons for the fall in prices were varied:

• Weak US economy
• May seasonal selling of commodities
• Eurozone debt troubles
• Monetary tightening, slowing growth and inflation in emerging markets
• Trend following algorithmic traders
• More assets invested in commodity ETFs
• Unwinding of arbitrage trades
• Profit taking

There is more information in this article.

Funds of Funds: Creating Value Differently

I was alerted to an article by Albourne Village about how funds of funds (FoFs) have been changing after the credit crisis of 2008.  One of the unfair criticisms from institutional investors and academics is that hedge funds and private equity managers do not want FoFs as clients.  In October 2010, SEI and Greenwich Associates discovered that 50% of buyside investors only invest in FoFs.  For investors in both hedge funds and FoFs, 60% of assets under management are placed in FoFs.  The institutions in the study were Foundations & Endowments, Public, Corporates and Consultants.  The items that provide FoFs an edge are access to managers, building customized portfolios and access to emerging markets hedge funds.

Venture Capital Investments By Sector

In the first quarter of 2011, there were $5.9 billion in venture capital investments.  The leading sectors were Software (20%), Industrial/energy (19%) and Biotech (14%).  Here is the chart of all sectors.

Is Goldman Sachs No Longer the Best Firm on Wall Street?

I was alerted to an article about how Goldman Sachs has fallen back to the rest of the bulge bracket.  William Cohan has a new book:  Money and Power:  How Goldman Sachs Came to Rule the World.  Some evidence of  this are:

• Fixed Income, Currencies and Commodities business was down 28% in the latest quarter
• Losing the best employees to smaller firms out of the regulatory spotlight
• Bonus pool is smaller
• Mergers and Acquisitions has fallen to number 2 behind JP Morgan after the first quarter
• Public relations missteps - AIG bailout, CDOs created for Paulson & Company and Facebook transaction