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How Smart Are the Smart Guys?

Are hedge funds the juiced up managers that deliver outsized returns to go along with their outsized fees? Or are they just mediocrity in disguise? Maybe they are former shadows of the heyday years of Tiger and Soros? Or maybe there are some great ones, and some awful ones. . .

There is very little in the academic literature regarding the use of 13F filings to delve into institutional manger long-only holdings. One teriffic working paper I have come across is written by a University of Texas professor, John Griffin, and titled, “How Smart are the Smart Guys? A Unique View from Hedge Fund Stock Holdings”

The ABSTRACT is below, but I will save you the time in reading the 61 page article(great paper however) with my summary following the abstract (bold text is my edit):

– Hedge fund assets have grown 32-fold from $38B in 1990 to $1.225T in 2006.
– 30-40% of hedge funds are L/S Equity Funds.
– He examines 306 hedge funds from 1980 to 2004 from 13F filings.
– 13Fs include positions that are greater than 10,000 shares or $200,000.
– Median hedge fund has twice the quarterly turnover of the median mutual fund.
– Compared to mutual fund weights, hedge fund weights are much less like the market portfolio.
– Relative to mutual funds, hedge funds are overweight small caps and underweight large caps.
– Hedge funds prefer medium-sized value stocks but strongly avoid the largest value stocks.
– Hedge funds are not heavy momentum players, and relative to CRSP and mutual fund weights, they have larger holdings in past loser stocks.– Hedge funds prefer stocks with low analyst coverage, less liquidity, and more volatility.
– Statistically significant, but economically weak evidence that hedge fund trading leads mutual fund trading.
– Large bets (concentrated positions) do not pay off for mutual or hedge funds (contrasting the Morgan Stanley study).– Hedge stock picking added 2.15% p.a vs only .82% for mutual funds.
– Most of this outperformance is generated in 1999 and 2000.
– No evidence of sector timing ability in hedge funds.
– Average correlation of .55 (.64 median) for long-only compared to reported returns for funds. (Exactly what we found for Greenlight, .55)

Another paper is by Rene Stulz titled, “Hedge Funds: Past, Present and Future“. In the paper he opines that “the performance gap between hedge funds and mutual funds will narrow, that regulatory developments will limit the flexibility of hedge funds, and that hedge funds will become more institutionalized.”

ABSTRACT for Smart Guys Paper

“We provide the first comprehensive examination of hedge funds’ long-equity positions and the performance of these stock holdings. Compared to mutual funds, hedge funds have higher turnover, weights further away from the market portfolio, prefer smaller opaque securities, and their trading moves slightly in front of mutual funds. However, despite their active trading nature, aggregate hedge fund trading and holdings are not beneficial in predicting the cross-section of future stock returns, indicating that on average hedge fund long-equity positions are not informed. Decomposing returns into three components, we find some weak statistical evidence on a value-weighted basis that hedge funds are better at stock picking (1.32 percent per year) than mutual funds, but this result is driven by tech stock holdings in 1999 and 2000 and becomes statistically insignificant if looking at equal-weighted performance or with price-to-sales benchmarks. The sector timing ability and average style choices of hedge funds are no better than that of mutual funds. Additionally, we fail to find differential ability between hedge funds. Overall, our study raises serious questions about the proficiency of hedge fund managers.”

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