Hedge funds slow to adjust
champagne tastes to beer budgets
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[November 21, 2016]
By Lawrence Delevingne
YORK (Reuters) - Hedge funds have struggled of late to keep up their
reputation as the sports cars of the investment world, often overtaken
in the race for returns by the public buses of portfolios, index funds.
But the proverbial Ferraris of investing - paid big to beat the market
or protect from its gyrations - have so far shown little sign of
curtailing their lavish spending on compensation, offices and employee
Hedge fund operators still work out of trophy offices in Manhattan’s
Plaza district, Greenwich, Connecticut or London’s Mayfair. They are
keeping the free lunch and snacks, ski and beach junkets, and even
in-house yoga. And they continue to lavish portfolio managers with
multi-million dollar pay, all in the face of poor performance and
“These guys aren’t living in reality,” said Brad Balter, chief executive
of Boston-based hedge fund investor Balter Capital Management.
A critic of the industry's extravagant ways and a longtime proponent of
lower-cost mutual fund-like hedge funds, or liquid alternatives, Balter
said many high-spending hedge funds will eventually have to change their
ways and become more like their more humble mutual fund cousins in terms
of compensation, perks and other costs.
But there are few signs of dramatic change.
Many hedge funds have underperformed the equities market this year, with
stock-pickers burned by losing bets on Valeant Pharmaceuticals <VRX.TO>,
Allergan <AGN.N> and Home Depot <HD.N>, among others, while
macroeconomic managers have struggled to trade their way through global
political and economic uncertainty.
But the average portfolio manager at a firm running more than $4 billion
with middling-performance - up about 1 percent year-to-date - is
expected to make an average of $2.23 million this year.
That is up from $2.21 million in 2015 and down from $2.42 million in
2014, according to 2017 Glocap Hedge Fund Compensation Report.
Top executives stand to make far more. The average wealth gain for the
highest earning 25 hedge fund managers in 2015 was $517.6 million,
according to a ranking by industry publication Alpha. Five firm founders
- Ken Griffin, James Simons, Ray Dalio, David Tepper and Israel
Englander - made at least $1 billion.
By comparison, the average mutual fund portfolio manager, regardless of
size or performance, is expected to make $634,000 in 2016, according to
Glocap, up from $630,000 in 2015.
“Even if performance is down, managers still understand the need to pay
big for top talent to avoid losing the very people who will help them
generate returns,” said Peter Friedman, chief executive of Integra
Advisors, a recruitment firm that focuses on quantitative investing.
There are some small signs of a reckoning. Poor recent performance of
late and predictions by McKinsey & Co and others of tepid returns for
years to come - because of low interest rates, slow economic growth and
more - have caused a small but high-profile group of clients to revolt.
Investors have pulled some $51 billion out of the approximately $3
trillion hedge fund industry over the first three quarters of 2016,
according to data tracker HFR, on pace for the biggest drop since the
financial crisis of 2008 and its immediate aftermath.
For those staying put, clients are demanding steep reductions to the
classic fee model of 2 percent of assets and 20 percent of investment
gains. A handful of major firms have acquiesced, including Brevan Howard
Asset Management, Caxton Associates and Och-Ziff Capital Management
Many new managers are launching their firms with fees closer to 1.5
percent of assets and 15 percent of gains, including so-called “hurdles”
that prevent charging for performance before beating a benchmark.
Even so, there is little evidence so far of substantial changes to
spending habits, according to recent conversations with more than two
dozen industry participants.
Citadel, PDT Partners and Bridgewater all still provide copious free
food for employees. Citadel has produced modest gains in its main funds
this year while Bridgewater is down slightly in its flagship hedge fund.
Performance for PDT was unavailable.
Decadent parties remain a perennial favorite. Balyasny Asset Management
flew employees and their guests for a weekend at the Fontainebleau Miami
Beach hotel last November for its annual business conference and holiday
party event dubbed “BAM Bash.” The 2014 version of the same party in New
York City featured pop star Taio Cruz and acrobatic performers. BAM
funds have produced modest gains this year.
Renaissance Technologies still flies staff and their families for an
all-expenses paid vacation weekend. This autumn the destination was a
resort in Florida. And Two Sigma rented out the Intrepid Sea, Air &
Space Museum in New York for its 2015 holiday party; the venue in 2014
was the nearby American Museum of Natural History.
Hedge fund offices continue to dazzle, even if returns do not. Och-Ziff
Capital Management, which has suffered investor withdrawals due to a
foreign bribery scandal and mediocre performance, works in the $200
per-square-foot Solow Building in Manhattan, one of the city’s most
expensive office towers.
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Two Sigma’s lower Manhattan office features spaces for playing games,
recording music and working out - including fitness boot camps,
meditation and same-day gym laundry service. D.E. Shaw & Co’s sleek
midtown Manhattan headquarters feature nap pods, a gym, game room and
D.E. Shaw, Two Sigma and Renaissance use computer-driven investment
models, which means they compete for talent not just with other hedge
funds but also top technology companies known for extensive employee
perks, such as Alphabet Inc's Google <GOOGL.O> and Facebook Inc <FB.O>.
Like many so-called quants, all three firms have produced strong returns
"While costs are certainly being scrutinized, the fact that the
environment is becoming more favorable to delivering performance means
that talent has to be retained," said Jack Inglis, chief executive of
hedge fund lobbying group Alternative Investment Management Association.
For that reason, he said, it makes no sense to yank perks or other
relatively modest budget items.
To be sure, some firms are making cuts.
Highland Capital Management slashed its conference budget in half, even
though its public Global Allocation Fund is up more than 20 percent this
year. It also recently traded its Solow Building outpost for less-pricey
space in the Times Square Tower in New York
Brevan Howard, which has performed poorly this year, told employees to
use their personal phones for company business and tightened its rules
Several hedge fund marketers, who drum up new customers for funds, said
they planned to engage in conference freeloading: hanging around the
venue of an event without entering, and meeting with clients
after-hours, thereby avoiding the price of a ticket, which can cost
between $5,000 and $15,000 per person.
Pershing Square, whose public fund is down 18.3 percent this year
through mid-November, is soon moving into new offices that are 40
percent less expensive. There is one flourish in the planned Hell’s
Kitchen, Midtown Manhattan space: a tennis court on the roof.
Other hedge funds are postponing real estate decisions this year,
according to Ben Friedland, an executive vice president at CBRE,
pointing to a more than 50 percent yearly decline in new leases signed
by financial services firms, and a relatively high proportion of them
renewing short-term contracts.
“Many firms are choosing to punt,” said Friedland.
Robert Olman, founder of recruitment firm Alpha Search Advisory
Partners, said firms are becoming more cost-conscious given that
performances fees are not yielding much.
“Twenty percent is not adding up to a lot these days,” Olman said, “So
they are watching every dollar.”
In some sign of change, a few large and relatively successful firms have
announced restructuring efforts.
Ray Dalio’s Bridgewater, the world's largest hedge fund manager with
1,700 employees and more than $150 billion under management, said in
September it was planning “significant changes to people, processes and
technologies,” to address a surge in staff numbers that led to its
non-investment divisions becoming “bloated, inefficient, and
Billionaire hedge fund manager Paul Tudor Jones laid off roughly five
dozen employees in August, or about 15 percent of his Tudor Investment
Corp workforce. Pershing Square cut 10 percent of its staff in June when
founder and head Bill Ackman laid off eight lower-level employees. And
Daniel Och’s Och-Ziff has seen its headcount decline by about 17 percent
this year, a combination of layoffs and departures.
Others have closed foreign offices, including TPG-Axon Capital and
Hutchin Hill Capital, or shut down altogether, including Perry Capital
and Nevsky Capital.
Lisa Baird, a hedge fund specialist at Heidrick & Struggles, said the
executive search firm is now getting more inquiries related to
restructuring. The discussions with clients include the issue of whether
pay for some roles is too high, given lower salaries for similar roles
outside of the hedge fund industry.
“There has definitely been a premium paid by hedge funds for many
roles,” Baird said. “That is coming into question with the squeeze on
For now though, most thoughts of big changes have not translated into
Anthony Keizner, a partner at recruitment firm Odyssey Search Partners,
said many fund managers know changes could be necessary, but it is hard
to be among the first the make a big shift given the potential for loss
“I’ve heard people say ‘Maybe we’re the frog in the boiling water
scenario - we don’t realize yet we should be changing.’”
(Reporting by Lawrence Delevingne; Editing by Bill Rigby)
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