Tag Archives: hedge funds

Mainstay Marketfield (iii): dollars and sense

December 31, 2014 By in hedge funds, liquid alternatives Tags: , , , , , Leave a comment

the Mainstay/Marketfield deal

When the Marketfield fund sold itself to Mainstay in mid-2012, it got two things:

–the legitimation of being part of a large financial company, New York Life; and, more important,

–it got access to NYL’s powerful distribution capabilities.

NYL, in turn, obtained a new “hot” product, with $2 billion under management, a respectable (if short) track record and a five-star Morningstar rating (btw, according to the Financial Times, Morningstar is now calling the fund a “gateway drug.”  It has also taken away two of the fund’s stars.).

terms?

I don’t know.  I imagine it consisted of an upfront cash payment to Marketfield, plus a continuing share of the management fee, which is 1.40% for the first $7.5 billion of assets, declining to 1.36% for assets over $15 billion.   Doubtless, Marketfield can’t create a competing product.

the product launch

I haven’t seen them, either.  I would imagine, though, that the sales pitch would be some version of the free lunch idea–that you get all the upside of an index fund plus considerable downside protection in bad times from the portfolio managers’ ability to sell short

the fund economics

Mainstay Marketfield is a load fund, meaning investors typically pay a sales charge to get their money into it.  The rules for how the charge is assessed are complicated.  Basically, though, if you have at least $1 million in assets in the Mainstay fund complex after your purchase, you get in for free. If you have $500,000+, the charge is 2% of your investment;  below $250,000 it’s 3.5%; below $50,000, it’s 5.5%.

In 2013, Mainstay Marketfield took in $13 billion+ in new money, according to the FT.  Let’s say that the average sales charge was 2% (my experience working for a load fund complex suggests the real figure is more like double that, but there may have been sales to large institutions, and anyway let’s be conservative).  If so, that total for the year would be $260 million in sales charges.  Roughly half would be paid to the selling brokers, meaning NYL netted $130 million.

Let’s say average assets under management for 1013 were around $10 billion.  A 1.39% management fee would amount to another $140 million, of which some part, let’s say 25%, would go to Marketfield.  That would leave $105 million for Mainstay.  (More complications:  Total fund expenses, including management, 12b1 fees and short-selling expenses, are around 3% annually.  To aid its sales efforts, Mainstay placed a short-term cap on expenses.  I’m not sure what expenses are included under that cap or how the costs may be shared with Marketfield.  So I’m noting, but ignoring, this.)

Let’s do what securities analysts always do.  My sales charge figures is probably too low; my management fee figure is probably too high.  We’ll cross our fingers and hope the two errors cancel each other out.  If so, Mainstay netted a cool $235 million from owning Marketfield in 2013.  Marketfield took in $35 million as well.

2014 and beyond?

2014 will likely prove to be a very profitable year, something along the lines of 2013, despite the fund’s recent woes.  Remember, average assets for the year will probably be around $15 billion–meaning management fees would have been 50% higher than in 2013.  And there were likely at least some sales in the first half.

I think a lot depends on whether the PMs can stabilize the fund’s performance, and thereby put a halt to redemptions.

If so, the fund may end up with, say, $7 billion in assets–and generate $100 million in yearly management fees.

If not, my guess is that Mainstay will try to sell the fund back to Marketfield or, as mutual fund complexes often do, fold it into another fund concept and have the Marketfield name disappear from the Mainstay stable that way.

It’s pretty clear what needs to be done.  The big question is whether the PMs have the willingness.

 

 

the Mainstay Marketfield fund

December 29, 2014 By in Current Market Thoughts, Getting financial advice, hedge funds, index funds, liquid alternatives Tags: , , , , , , , 3 Comments

I was reading in the Financial Times over the weekend about the Mainstay Marketfield mutual fund.  It gathered the most money of any mutual fund in the US during 2013, $13 billion, but it is now apparently suffering sharp redemptions after very badly underperforming in 2014.

Mainstay Marketfield

Mainstay Marketfield is the leader among “liquid alternative” funds, which purport to provide the hedge fund experience to ordinary investors like you and me through a mutual fund.  Why exactly that’s a good thing is another issue, since hedge funds as a class appear to underperform an S&P index fund on a regular basis (on top of this, the information the public has about them comes from their voluntary self-reporting, whose accuracy academic research has shown to be suspect).

Anyway, on the idea that one can learn a lot by examining things that go wrong, I thought I’d take a look at Marketfield.

Here’s what I found by spending a couple of hours looking at the fund’s SEC filings, the managers’ backgrounds, the Mainstay fund family site and charts of the fund’s performance.  The picture may not be complete, but it’s what I think a careful observer would come away with:

–the lead manager has worked in finance, mostly as a strategist, for 34 years.  His colleague has 21 years in the business.  As far as I can see, neither had any training/experience/supervision in portfolio management before they opened the Marketfield fund in 2007.

–the fund opened to the public in March 2008.  It had a period of strong outperformance vs. the S&P 500 during the stock market decline of late 2008-early 2009, when its losses were only about half those of the market.  From the bottom in March through mid-2013 it matched very closely the performance of the S&P 500.

–in 2012, Marketfield sold itself to the Mainstay fund family of New York Life.  NYL retained the Marketfield managers as subadvisors–meaning the two continued to run the fund.  Sales of fund shares skyrocketed once Marketfield hitched itself to the NYL salesforce.

–in late summer 2013, the fund began to underperform the S&P fairly steadily.  From the beginning of September 2013 though last Friday, the A shares were down by 8.9% vs. a gain by the S&P of 25.6%.  Factor in a 5.5% sales charge holders paid to obtain shares and the results are that much worse.

What happened?

The managers appear to me to be envisioning a world of runaway inflation of the type that beset the US in the late 1970s.  In such an environment, it would be important to own shares of companies that could raise prices at an inflation-beating rate and to avoid those that could not.  In the Seventies, the “bad” sectors were Healthcare, Utilities, Staples and Consumer Discretionary.  The “good”: ones were those that held  hard physical assets, like industrial plant and equipment, real estate or mineral resources.

In the 1970s, financials were losers;  they issued mostly fixed-rate loans, and they were constrained by government regulations that capped the interest rate they could pay for deposits.  In today’s world, those restrictions are gone; loans are typically floating-rate; and the banks can be involved in brokerage/investment banking.  So, arguably, financials would be winners if inflation were to accelerate strongly.

Whether this was their thinking or not, this description fits the portfolio they created.

my look at the portfolio

on the long side

The Marketfield portfolio held/holds Financials, Industrials and Materials.

It has no Healthcare, little IT, no Staples, no Utilities (all of which have been the stars of 2014).  It also has little Consumer Discretionary and almost no Energy, both of which have been good things.

on the short side

The fund shorted Utilities, Staples, and Retail.  It also appears to have winning bets against the euro and the yen, the latter offset by significant holdings in Japanese stocks.

What I find striking is that while the market has been going against Marketfield for over a year, the portfolio strategy I see is basically unchanged.

more going on

There’s also more going on than I’ve been able to see.  Everything I’ve said until now would lead me to believe that the fund’s year-to-date return should be around zero  …not -12+%.  The long US stocks should be up 5% -10% (the only sector in negative territory is Energy).  I’m figuring that shorting industries that are, say, +20%, wipes out those gains, but does little more damage because the shorts are a lot smaller than the longs.

So something else is happening.  I don’t know what.  Broadly speaking, the reasons may be staring me in the face in the quarterly SEC filings I’ve seen (the stock selection looks uninspired, and maybe a little weird–of the holdings, I own only INTC and SPLK–but it’s almost impossible to lose 12 percentage points through bad stockpicking, particularly with the large number os stocks the fund holds).  Or there could be transactions that are opened and closed within the quarter and therefore don’t appear in the quarter-end statements.

my take

Th Mainstay site contains a Barron’s reprint from October in which the author touts Mainstay Marketfield as having double the returns of similar long-short funds since the market bottom in 2009.  Hard to believe that other long-short funds have lagged so far behind the S&P.

I find the $5 billion in redemptions (about 30% of peak assets) the FT says Marketfield has had ito be a stunningly large amount for a load fund.  My experience is that even in deep bear markets load funds have redemptions of maybe 10%.  This implies to me that neither the financial advisers who recommended the fund nor the clients who purchased it really understood what they were buying.

What I find most odd is that NY Life, which presumably has an older and more risk-averse clientele, should have chosen Marketfield to offer to its customers.  What’s odder still is that the move was spectacularly successful as a marketing move–until the wheels came off the performance.

It will be interesting to see if Marketfield can stage a comeback.  If the FT is right about the extent of redemptions (I presume it is; I just don’t know), the first indication will be whether the managers use the selling they have to do to reshape the portfolio.  Standard procedure would be to take some of the edge off the losing bets.  To my mind, “staying the course” would be the worst thing to do (personally, I think the runaway inflation idea is just wrong).  We’ll see when the next SEC filings come out next month.

 

 

 

 

doing securities analysis vs. getting inside information

December 17, 2014 By in insider trading Tags: , , , , 3 Comments

the “mosaic” theory

When I became a securities analyst in 1978, the mosaic theory was what was commonly understood as being an adequate defense for an analyst accused of trading on inside (that is, material, non-public) information.

An example:  I’m interviewing the CFO of a large company I know is in negotiations over a very lucrative project in China.  This firm has a smaller, publicly traded partner, for whom this project could, say, triple its earning power.  After a series of questions, I tell the CFO that I’m estimating the company’s interest expense for next year will be $200 million.  I ask if this sounds right.  He responds that it will more likely be $250 million.

I know the company’s cost of debt is about 5%, so the added interest expense means new borrowing of $1 billion.  The only reason to do so would be to fund the China project, which seems innocuous enough but which has enormous implications for the smaller partner.   So I buy the stock of the partner for my clients’ portfolios.

Let’s add one more thing.  I’ve spent a half hour on the phone with the CFO, asking a lot of questions.  My main purpose has been to create an atmosphere in which he’d answer the interest expense question.

Am I trading on inside information?  At the start of my career, the answer would have been no.  Ten years ago, I might have gone to a compliance officer before acting–and most likely would have been told not to trade.

Another example:  Same companies, but this time I’m in Narita Airport in Tokyo and see the CFO boarding a plane for Beijing.  He doesn’t appear to be on vacation.  He hates business travel.  The only work reason he would have for a trip to Beijing would be to sign the joint venture project agreement with the Chinese government.  Do I have inside information or have I just made an astute conclusion based on my professional background and experience?

Same answer.  I’d worry and would again seek assurance that my firm would defend me in a lawsuit.  I’d probably be told not to trade.

To be clear, I’m not at all a fan of so-called “expert networks,” which are many times thinly veiled centers for bribery of corporate officials and theft of proprietary information.  At the same time, it seems to me that over my career the focus of SEC prosecution of traders on inside information has gradually shifted from a focus on the illegal character of the information collection to whether the information itself is widely known, with no regard to if its possession is the result of professional skill and knowledge or simply theft.

 

A recent appeals court decision (I read about it in the New York Times) overturning the insider trading conviction of two hedge fund managers may signal that the scales are starting to move in the other direction.

The court ruled that the SEC must prove that the receiver of an “inside” tip who acts on it must know both:

–that the information is not for public release, and

–that the provider has received an “exchange that is objective, consequential and represents at least a potential gain of a pecuniary or similarly valuable nature” in return.

The ruling seems to me to have wider implications than just protecting securities analysts from arbitrary prosecution.  It also appears to open the door widely to old-boy network activity, which I don’t regard as a good thing.  Still, if I were still a working analyst it would give me heart to do my job more aggressively.

 

 

CalPERS is exiting its hedge fund investments

September 16, 2014 By in hedge funds, Investment firms, Private equity Tags: , , , , , 1 Comment

the CalPERS decision

The California Public Employees Retirement System (CalPERS), the largest public pension system in the US and an early adopter of hedge funds, has announced that it will terminate its entire $4 billion in hedge fund investments over the coming year.

The decision comes after a review of CalPERS’ hedge fund performance by its investment staff following the death from cancer of the organization’s Chief Investment Officer, Joseph Dear.  Mr. Dear, a strong proponent of alternative investments such as hedge funds, took the reins at CalPERS in early 2009.  His appointment came in the wake of a sharp, recession-induced drop in the value of CalPERS’ assets–and as an alternatives-related “pay to play” scandal involving pension consultants and so-called “placement agents” was unfolding (see my post).

The stated reason for the move is that hedge funds are too complex and too high-cost.  Reading between the lines, this seems to me to mean that the hedge funds CalPERS used didn’t provide either the promised diversification or superior returns.  My guess is that the professional staff, who have the best understanding of the products, wanted to act quickly, before a new political appointee could arrive to muddy the waters.

In one sense, the CalPERS move should come as no surprise.  Although there are a small number of hedge funds run by superb investors, the average offering has pretty steadily underperformed the S&P 500 for over a decade.  In addition, the elevated fee structure results in most of what profits there are going to the fund manager, not the client.  These factors call into question the rationale for having made the investments in the first place–to reduce the underfunding of pension plans through superior investment performance, so that higher contributions to the plans by the corporation or government body that sponsors them can be avoided.  The evidence seems to me to be that hedge funds generally make the underfunding problem worse, not better.

On the other hand, it takes a substantial amount of courage to fire managers who have strong local political connections.

investment significance

CalPERS is a trend-setter.  It may well be in this instance, too.  A lot depends on whether the next CIO supports the investment staff decision to end hedge fund exposure or overrides objections.  In the former case, this could signal the gradual return to less speculative trading-oriented, more fundamentally driven securities markets.

 

 

 

Detroit’s city-owned art and alternative investments

July 11, 2014 By in Current Market Thoughts, hedge funds, Investment firms, Private equity Tags: , , , , , , Leave a comment

Late last year, Detroit revealed the results of an estimate by auction house Christies of the value of the city’s art held by the Detroit Institute of Art.  The figure was a range of $464 million – $867 million.  Let’s take the mid-point and call it $650 million.

Yesterday, I saw in the Wall Street Journal a new estimate by Artvest Partners and commissioned by the city that comes in with a range of $2.8 billion – $4.6 billion.  The mid-point here is $3.7 billion.

But wait!   …there’s more.  According to Artvest, if Detroit actually wanted to sell the artwork, it’s only worth $850 million – $1.8 billion.  Mid-point:  $1.3 billion.

OK, which is it—$650 million, $1.3 billion or $3.7 billion?

There is one subtlety.

–The $650 million is the (if you’re not selling) value of the art that the city has bought with its own tax money.  It does not include work donated to the DIA, where there may be strings attached that don’t allow the works to be sold.  (An aside:  there may be a further twist here.  The DIA has presumably either provided donors with appraisals of their gifts’ value, or validated appraisals donors have provided.  In either case, donors will have used these figures, which may be–shall we say, “optimistic”–to claim income tax deductions.  a potential mess that I have no desire to comment further on.)

–The Artvest figures, on the other hand, count everything as salable.

What caught my eye in the WSJ article is the gigantic difference between what the appraiser says the art collection is worth–$3.7 billion–and what it would fetch at auction–about a third of that amount.

What struck me is that this is a lot like the way, in my experience, that the market for illiquid “alternative” assets works.  So the Detroit case gives a rare glimpse into the inner workings of alternative asset valuation.

As in the Detroit case, there’s one value that investors hear about in reports from the management company, and based on which the manager charges his fees.  That, of course, is the $3.7 billion.

The other value is what investors would get if the alternative asset pool were to be liquidated today.  It’s what mutual fund investors would call net asset value, or NAV.  That’s the equivalent of the $1.3 billion.

Yes, part of the reason the actual sales value in the Detroit case is so far below the (I don’t know what to call it) “dream” value of the artwork is the possibility of donor litigation that would freeze assets for protracted periods.  On the other hand, any investor in emerging countries can face similar political difficulties.

Several factors do make the alternative investment case different from Detroit’s:

–in at least some alternative investment situations I’ve seen, the assets are so esoteric that there are few experts other than the asset managers themselves.  So the managers end up doing the asset value appraisals.  If so, I think they’ll tend to find it hard to arrive at a figure that’s not in the rarified air of Artvest’s $3.7 billion.

–the contracts between investors and managers often allow the latter to refuse redemption requests for an extended period, so actual NAV may be a moot point.

–if investors insist on liquidation, asset managers may be able to make a distribution in kind–meaning investors get their proportionate share of the actual assets, not cash.

Institutions will do almost anything to avoid this situation, since they’ll be forced to safeguard and value any assets they receive.  (Early in my career, when Guinness was an independent company, some one there had the crazy idea of paying a dividend in bottles of scotch instead of cash.  This would make portfolio managers like me responsible for valuing and storing the stuff, and presumably eventually selling it, on behalf of my clients.  What a disaster!)

–based on NAV, it’s not 2% of the assets per annum that moves from the investors’ pockets into the managers’.  It’s actually 6%!  Ouch.

As I’m confident you’ve worked out already, I’m not a fan of alternatives.  The risks are hard to get your arms around; information is scanty; and in my view most of the returns go to the managers.  Investors mostly get to dazzle their cocktail party friends with their daring; they lick their wounds in private.

My thoughts aside,for anyone wanting to get a peek under the covers of alternatives, watching the Detroit art case should provide an education.