The fork in the Hedge Fund industry

Today I return here to Insight Corporation posts. This time with a nice, informative and helpful article in Financial Times about what is going on in the so often mysterious or misunderstood Hedge Fund industry.

To wit here they are some of the best  pasts from the article:

M&A arbitrage is a good example of a highly specialised hedge fund strategy that the “quants” now say they can mimic. “Arbs” place bets on whether corporate acquisitions will fail or succeed. When a company makes an offer for a rival, it will typically offer a premium price — but there is always a danger that the deal collapses, so the shares typically trade slightly below the offer price.

Skilled arb funds — typically stuffed with corporate lawyers, antitrust experts and former investment bankers — buy the shares of targets when they think the deal will go through, and short the ones where they think the deal will fizzle. The risk is in practice binary, and the better the fund, the more accurate its predictions.

Enough deals go through that even average M&A arbitrageurs should make money over time, as they capture what Mr Romahi calls the “deal failure risk premium”.

But quants now think they can do even better than simply systematically buying acquisition targets, by studying history for what deals go through and which fail, and automatically weighing their bets accordingly.


And the bifurcation in the industry appears to happen on different approaches and strategies. Some with the quant computer driven models and others just involving Human Intuition and business acumen. But is there really a battle of paradigms, or a diversity of ecosystems not mutually exclusive?:

But he has identified a multitude of factors that affect the M&A strategy’s success rate, using the same statistical techniques that doctors use to determine how long a cancer patient has to live.

As is often the case with quants, they are confident that their mathematical approach produces better results than human intuition. The traditional M&A arbitrageurs are “good but often not very accurate. Our model has actually proven more accurate than the arbitrage funds”, Mr Luo says.

M&A arbitrage is just one of many popular hedge fund strategies whose secrets quants say they are now deciphering. Others include global macro — betting on the ebb and flow of international interest rates and currencies — and even activist strategies pursued by the likes of Dan Loeb’s Third Point, Bill Ackman’s Pershing Square and Carl Icahn.

I will honestly bet that a somewhat healthy co-existence of all the strategies to be in the interests of everyone. An in academia sometimes the theoretical view isn’t so that far off reality:

While the quants have crunched their numbers through supercomputers their models for what works are based virtually entirely on “backtesting” against historical data. The financial crisis showed how a slavish adherence to modelling can spectacularly blow up in real-life markets, either immediately or eventually.

“I have very little regard for these hedge fund replicators,” says Robert Frey, chief investment officer at FQS, a fund-of-hedge funds and a quantitative finance professor at Stony Brook University. “They all fail miserably when the market regime shifts.”


I wish you all good trades and strategies: be they quantitative or intuitive!

” #Hedge #fund managers are arguably the celebrity chefs of the money management industry. They are best able to whip up…

Posted by Insight Corporation on Friday, February 19, 2016

Featured Image: BusinessWeek Slams “The Hedge Fund Myth”