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Sunday August 07 2022
Big Winners, Big Losers

Portfolio International  March 1998


Past months of market turbulence have proved make-or-break season for hedge funds. The final quarter of 1997 revealed some big winners - Magnum's Russia Fund and Julian Robertson's Tiger Fund among them - and some all out losers. GAVIN SERKIN looks at strategies behind the stories of success and failure OTHER than a dressing down by Malaysia, hedge fund managers in the main are among the few winners from the South East Asian crisis.

      During the rocky fourth quarter of 1997, half the fund categories recorded by researcher TASS were in the red, with Latin American equities showing fourth quarter losses of more than 19 per cent.


      Meanwhile funds in Tass' short sellers category were up an average 11.46 percent.


      However this rosy overview of the industry shelters some big losers - such as ING's emerging market hedge fund, Javelin.


      The fund had been marketed as a defensive fund which would bear up well during periods of turbulence.


      Before October, 1997, Javelin was among the best performing emerging market hedge funds, averaging returns of 32.6 per cent since inception in 1995.


      Yet in precisely the conditions the fund was designed to outperform, it plundered, losing almost two thirds of its net assets in the final quarter of last year as investors withdrew around $l00rn.


      Combined with investment losses, Javelin recorded a decline in net assets of 25 percent overall in 1997.


      Investor confidence was particularly shaken by a feeling that Dutch fund manager ING had retracted from its original strategy -to liquidate core positions if the US-based fund lost more than 10 per cent of its value. Javelin's net assets fell by 24.7 per cent in October 1997 (source: FT).


      The lucrative weapon of the hedge fund manager which, in theory, should provide the upper hand during hard times for equities, is "short" selling stock which the fund does not actually own in the belief the price is heading south.


      King of the bears was Julian Robertson's Tiger fund.


      Tiger's investments are derived from a cross section of regions and industries.


      Yet in the latter half of 1997 the fund had focused intensely on short selling Asia financial stocks, while at the same time investing in growth in other sectors.


      The combination proved dynamite. Tiger leapt 70 per cent in value from $9bn at the start of 1997 to $15bn by the end of the year.


      Meanwhile, up 74.28 per cent at the end of 1997 compared with the same period a year ago, was the Magnum Russia Fund.


      The fund of funds, in common with other Magnum products, blends hedge funds with other investment strategies, to meet an array of investor/risk return objectives.


      The strategy is aimed at achieving steadier returns than individual hedge funds.


      The Russia Fund takes advantage of the undervaluation of assets in Russia by investing with well known investment managers who have established connections there, including George Rohr and Boris Jordan.


      These managers invest primarily in privately held companies in which recent privatisation and demand for growth capital provide opportunities to own large equity positions at discounted prices.


      The strategy was rewarded by Magnum winning the title best performing fund of funds in the world for 1997 (source: Hedge).


      Magnum Global Investments has now embarked on a new hedge fund project with US fund manager brothers Michael and Steven Sapourn.


      Sapourn Financial Services has enjoyed 19 straight winning months on its hedge funds, including gains during the fourth quarter of 1997.


      Sapourn's strategy of maintaining low volatility with consistent returns is the basis of the new MS Performance Fund sponsored by Magnum Global Investments - limiting exposure to equity volatility through strategic short term trading.


      Enlisting a proprietary statistical model, the fund uses historical data to predict market direction in a given sector over a few days - which is easier and more accurate to measure than over a longer time.


      Whichever sectors show the strongest probability for short term gain are targeted for investment.


      Steven Sapourn of SFS, who is the MS Performance Fund manager, explains: "The computerized model looks at how a particular sector has responded historically (over the past 25 years) when certain indicators were the same as those of the present day."


      "The historical data tells us, for example, that when interest rates decline, bank and insurance stocks tend to respond with the highest gains in the ensuing days."


      SFS makes a decision to invest in a sector if historical analysis shows that the sector experienced a short-term gain 60 per cent of the time, and that these historical gains were, on average, three times higher than the losses that occurred 40 per cent of the time.


      Using this stringent criteria, SFS has achieved strong returns, particularly given its low market exposure - of 40 per cent on average.


      Typically SFS makes two to three trades a month, holding its positions for only four to five days on average. This enables it to keep cash positions during periods of high market risk or volatility.


      During the turbulent month of October 1997, for example, SFS only invested in two sectors for a total of five trading days, and sheltered in a 100 per cent cash position during the worst of the crash.


      Its investments gained 2.58 per cent for the month.


      The MS Performance Fund's short-term strategy is grounded in research that shows the downside of holding positions for the long term.


      According to one study by Davis Research in the US, an investor in the S&P 500 from 1980 to 1989 would have had a 17.6 per cent average annual return. Had this investor missed the best 20 days during this time period, the annual return would have declined to 9.6 per cent.


      However, had the investor missed the worst 20 days, the compounded annual return would have risen to 30.5 per cent.


      The conclusion from the statistics reached by SFS is that by missing both the best and the worst days, generating a 2 1. 1 per cent return, the investor outperforms the buy-and-hold results by 20 per cent with significantly less volatility.


      In 1997, the S&P 500 had 31 days with losses in excess of I per cent; SFS was in a cash position 23 out of these 31 days.


      Sapourn comments: "By eliminating many of the worst days we avoid the need for 'make up' trades and only invest during those days with optimum risk-return characteristics."


      The fund also specifically targets larger cap New York Stock Exchange-listed companies, Sapourn adds, which have the advantage through heavy trading of being very liquid, enabling the fund to get into and out of them quickly at low transaction costs.

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