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Alternative Market Briefing

Risk is being socialised, says author Alexander Ineichen

Thursday, February 25, 2021

Alexander Ineichen
B. G., Opalesque Geneva:

In 2008, Warren Buffett issued a challenge to the hedge fund industry, which he thought charged exorbitant fees that the funds' performances could not justify. Protégé Partners LLC accepted, and the two parties placed a million-dollar bet. According to Investopedia, Buffett's ultimately successful argument was that, including fees, costs and expenses, an S&P 500 index fund would outperform a hand-picked portfolio of hedge funds over 10 years. The bet pit, in effect, the passive and active investing philosophies against each other.

"Buffett won the bet, even when you adjusted for the volatility," says Swiss-based analyst and author Alexander Ineichen, who in a 9th March webinar will reveal further results of the bet assuming they had done it from 2018 onwards when the S&P500 has been very difficult to beat.

In this Opalesque SKILLSLAB Investor Workshop webinar, Ineichen will discuss persistent alpha with institutional investors Panayiotis Lambropoulos (Texas Employees Retirement Systems) and Dave Finstad (British Columbia Investment Management Corporation), as well as Eric Uhlfelder, author of the 2020 SALT Hedge Fund Survey.

Hedge fund returns win in the longer term, according to Ineichen, that is, if you look at the returns from 1970 to 2020. "You have this one-liner that says 'equity-like returns with bond-like volatility', and that is sort of true if you look at a very long time series."

The cost of risk management

The point he is making in his research on this side of the century is that by investing in hedge funds, you pay a manager to do risk management in the absolute return space. And this comes at a cost, which is the reason you can explain the underperformance relative to the S&P 500.

"With the benefit of insight, we know that one did not need risk management because, throughout this observation period, there was a bailout mentality thanks to the intervention of the authorities through the central banks," he explains. "That is true for the U.S., for Japan, for Italian bonds (the "whatever it takes" scenario from 2012). It looks like we are in a regime where the investor, the risk-taker, is bailed out. Like, for example, in March last year, when the infusion of capital was quite central for the S&P 500's swift recovery."

Indeed, global central banks stepped up their crisis-fighting approach in March 2020 by cutting interest-rate, purchasing asset, applying currency interventions and liquidity injections.

In the last year, the S&P 500 has risen by about 28%, the Dow Jones Industrial Average 18%, and the Nasdaq composite has gained about 51%.

Ineichen believes that risk is socialised whereas the profits are privatised. In such an environment you do not require risk management. If this kind of risk were to last forever, you would not need hedging. But things change, he adds. This socialising of risk might not always work.

His three definitions of risk are:

1. Exposure to change (his favourite).

2. More bad things can happen than will happen.
Just because something has done well in the past, it does not mean it will continue to go well in the future. For example, compare the S&P 500 today to the Nikkei 225 in the late 80s - then, everyone looked at the latter as the main benchmark.

3. Permanent impairment of mission.
The first task of risk management is survival, which is why you need an active approach. Risk management survives in small increments. You cannot invest and ignore the risks.

He will discuss them further in the webinar.

13.Feb.2015 Opalesque Exclusive: Nowcasting is to forecasting what astronomy is to astrology

Upcoming webinar:

Investor workshop: In search of persistent alpha

- Alexander Ineichen, analyst and author,
- Panayiotis Lambropoulos, responsible for the Texas Employees Retirement Systems' Emerging Hedge Fund Manager program,
- Dave Finstad, Senior Portfolio Manager, Partnership Portfolio at British Columbia Investment Management Corporation (BCI),
- and Eric Uhlfelder, analyst and writer, author of The Survey of the Top 50 Hedge Funds.

When: Tuesday March 9th, 10:30 am - 11:30 am EST
Free registration:

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