Sunday, August 5, 2012

Do we buy hedge funds for the same reason that we buy Hermes and Chanel?

The following blog is contributed by one of my favorite Brits and an awesome and funny human being in general--Charles Aram.  Charles is the founder and CEO of Henderson Rowe Asset Management (you can find out more about this fascinating and devilishly handsome creature here: http://www.hendersonrowe.com/about-us/key-people/charles-aram/). [Yes yes, Charles did buy me a very nice Hermes tie once]


Charle's piece is very related to my last blog post "Selling Hope", but it is so much more powerful coming from a boutique asset manager who runs active strategies for clients.

================================================

In the blazing July heat of a Turkish coastal resort a man can be forgiven for retreating to the cool of an air conditioned shop. The surprise was the enquiry and conclusion that followed when I beat such a retreat.

For in my oasis of cool was Mustafa's collection of counterfeit and fake bags of all descriptions and sizes. Hermes, Chanel, Burberry and others looking to the inexperienced just like the real luxury items. Many before me have commented on their reactions to seeing such blatant disregard for laws. My reactions ranged from disgust to wonderment. The disgust is easy to understand; there is something wholly offensive when the smooth Mustafa explains every stitch is copied and even the leather used is from the offcuts of the leather Hermes use. The sense of wonder and incredulity is at the sheer scale of the gulf in price. This bag costs €250 whereas the real one costs €5000. They look similar, very similar and both would perform the same function I would imagine to an identical standard. Perhaps the real one might last longer, but by 20 times longer? I very much doubt it.

The realisation of how much Hermes and others must apportion to the building of their reputation rather than their actual product was galvanising. For surely with their scale they can produce their bags for a not dissimilar figure to Mustafa's can they not? There is great comfort of course, a tribal sense of achievement and belonging, for the real Hermes bag owner and crucially they will be able to show off to the world their prized bag wherever they go. It is certainly true that Hermes shops are awesome to visit and many times I have crossed the threshold and brandished my card with vigour, leaving with a slim orange bag and a sheepish look. Is this behaviour rational, and do any of us like to overpay for the functionality of the goods we buy? Cogitating on the conundrum I tuned out of Mustafa's sales patter and thought about hedge funds and fund managers.

The strangest thing about buying expensive investment products like hedge funds, private equity funds and actively managed funds, is perhaps how little opportunity you get to show off how much you have paid for ownership. You can't brandish statements about everywhere you go; the only person you get to impress is yourself. In bag context terms these types of funds are the real Hermes bags. The fakes are the cheap index funds. The gulf between bags real and fake is not so different in the investment world. You can pay ten times less for index funds than you can for active managers. Both do a very similar job, to a very similar standard. It is hard to believe that in a matter such as money, as opposed to style, anyone would pay for marketing and reputation rather than functionality, but that is the natural conclusion.

There is certainly a risk that you will feel like an idiot if you get found out with a fake bag, but in the world of investment you might feel like an idiot if you get found out with the "real" thing.

31 comments:

Anonymous said...

It's the wrong analogy - hedge funds aren't meant to be anything like index funds. Index funds are related to some market exposure (i.e. beta) and are not meant to be providing any sysematic risk mitigation - index funds are a way to get exposure, they are not a way to own or to invest. Hedge funds are meant to be unconstrained investment vehicles that provide more than exposure - they are investment vehicles not products.

Anonymous said...

I like the point, but it is the wrong conclusion. Yes 2% & 20% is egregious, but on a risk adjuested basis ETF's and Index funds are no longer cheap. Having recently conducted quite a significant review of passive opportunities, I have actually found that owning long only active managers probably represents the best value. Once you take into account the additional counterparty risk and/or stock loan risk that ETF and Index managers carry, you end up paying quite a lot for broad exposure. Long only managers in a managed account can be achieved for anything between 60bp to 90bp, which on a risk adjusted basis is quite appealing... given that you can never really know the financial position of the swap counterparty or whom your stock is being loaned to in a index alternative.

Anonymous said...

I think there is a real risk that investors end up with products, vehicles and funds which are not necessarily suited to their needs, and instead have been seduced (either by themselves or by their advisers) into believing that using the same vehicles or funds as sophisticated, knowledgeable and wealthy investors somehow puts them into the same category. So I agree that, yes, emotionally, there is a link, although the analogy is perhaps not with the Hermes bag and the fake but the with Hermes bag and something simpler and cheaper which does more or less the same job and meets the client's needs.

jason c hsu said...

One of the local JPMorgan Chase high networth bankers came by the other day. His offering pitch was, "Our high networth practice used to only work with clients with $25m in relationship with the bank. Since we are wanting to grow our West Coast business, we are now willing to work with clients with much smaller deposits." I asked him what I get if I am enrolled into their HNW program, to which he replied, "you are then qualified to buy our hedge funds, which are usually only available to our high end clients."

I am amuse by needing to qualified to be robbed by bankers who charge 2% + 20%.

Anonymous said...

Like the random chime from a distant slot machine, the siren call of hedge funds lure investors with the tantalizing proposition of a free lunch. Invest along side the "smart money" who posses superior insight, deep knowledge and proven capabilities. Don't discount the cocktail party prestige and bragging rights that accompany the shrewd investor who artfully telegraphs his high net worth status in much the same way that he totes a $5000 leather bag.

Horizon said...

Thank you for your comments. It is not necessarily a good analogy, but it does call into question how we assign values, other than long term financial results, to our decision making. I love the fact that we are willing to pay for "useless advice" (see: Selling Hope by Jason) or twenty times more for a bag almost identical to another. Perhaps there is money-blindness, a condition like colour blindness, leading to a preference of glamour over certainty of results? And why not?We all end up giving away anything we have left.
Charles Aram.

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