Sign of Ignorance — The conclusion, sort of

Sometime last week The Oregon Department of Transportation sorted out its recent contribution to the sign clutter at the intersection of Capitol Highway and Barbur Boulevard in Hillsdale.

In my March 2nd post, I had encouraged neighbors to contact the ODOT "citizen representative" about the placement of a new bicycle warning sign, and several did.

But as you see in the photo I took yesterday, we have another problem. The TriMet bus stop sign obscures the "H" (for the OHSU hospital) directional sign. I wonder what it would take for TriMet to move its sign ever so slightly? Doing so might just save a life.

In any case, To the left is the "before" photo of the clutter....and below it is the way things are now. (Note that you can't see the "H" in either photo.)

Sunday's Montage

Hedge Hog "Hogwash" — Part III: How funds do it

Chris Clair's on-going answer to my questions about the "worth"of hedge funds (Do they actually contribute to society?) and their exorbitantly paid managers (How much is enough? How much is simply obscene?) continues.

I've decided to extend Chris' response to four parts. Part III appears here. Part IV, a summation, will come later in the week.

For a review of my original post, which inspired Chris, go here. The first two parts of his response are here and here.

As noted previously, Chris, a friend and former student, writes for Hedge World, an industry newsletter.

Part III — How the funds make their money

For the most part hedge fund managers trade securities, just like mutual fund managers. The key difference is that hedge funds can bet on falling securities prices as well as rising prices through a process known as “shorting.” In a short sale, the hedge fund manager borrows securities – let's say stock in a company the manager believes is overvalued by the market – and sells them. When it comes time to repay the borrowed securities, the manager hopes the price has fallen so they can be repurchased at a lower price. The manager pockets the difference, and the brokerage pockets the borrowing fee.

Hedge funds also bet on what are known as "spreads" or the difference in price between securities. Sophisticated pricing models can be employed to estimate securities prices. If the manager sees a too-large or too-small discrepancy between the prices of two securities, the manager can bet on the spread to either narrow or widen.

Those are just two examples of many different strategies managers follow.

Often hedge funds are engaged in what Roger Lowenstein called “vacuuming up pennies” in his book When Genius Failed, about the failure of the hedge fund Long-Term Capital Management. As he explains, "vacuuming up pennies" involves leveraging loans 100 or more times over.

LTCM was using that kind of leverage, which worked fine as long as the models were correct. However when Russia defaulted on its debt, bond spread characteristics changed beyond the model's ability to handle the calculations. Because LTCM worked with so much borrowed money – hundreds of millions of dollars – when its bets appeared to go wrong, the banks called for more collateral. To them LTCM was a counterparty, and to a certain extent its losses became the banks' losses, at least as far as balance sheets were concerned. This was why the government had to step in and back LTCM, so that the hedge fund's counterparties wouldn't be dragged down by its problems.

Today, similar problems have been exacerbated because the financial world is even more intertwined now and securitization is more prevalent.

Hedge funds also were players in the securitized credit markets that resulted from packaging and repackaging loans (many of which had highly risky contents). Now some funds are hurting. Even many of those that earned positive returns last year are losing assets, as investors pull out what money they can find to cover losses elsewhere, or to live on.

Going with what we had

My journalism class (Columbia University Graduate School of Journalism, Class of ’69) is approaching its 40th reunion at the end of this month. The e-mail traffic has been frenzied in preparation.

It’s good reading with this group, which, as you might expect, knows how to turn a phrase.

Several have recalled that eons ago in the school’s writing classes, we were reminded, as deadlines loomed, “to go with what you’ve got” — for better or worse.

Back then it usually was worse, but never mind.

Forty years on, my classmates are ordering sweatshirts that read: “We went with what we had.”

I won’t bore you with specifics, but what we “had” since graduation was pretty darn good.

That said, 40 years ago none of us imagined that our own retirements would be accompanied by the retirements of newspapers themselves.

All of which led one wag to suggest that the words on the sweatshirts should read:

"What we had — went."

White Stag worthy words

Randy's right. That would be Portland city commissioner Randy Leonard.

Plastering “The University of Oregon” on the “White Stag” sign is a condemnable waste of public space. Provincial, provincial, provincial!

(And these university people are supposed to be smart and creative....)

Here are some one-liner candidates to greet folks as they exit the Banfield Freeway. After reading each, imagine it on the sign.

“Weird forever!”




“You’ve Arrived, again!”




“The Time is always NOW!”




“Just how awake are you?
Yes, YOU!”




“Endings are beginnings”




“Oregon: A State of Mind”

"Peace is the Way"

Your turn.

Hedge Hog "Hogwash" — Part II: What they do

Chris Clair’s rebuttal of my questioning the compensation and worth of hedge fund managers continues.

For those who would like to follow the thread back to its Red Electric origins, my initial post, which invited Chris to comment, is here.

Part I of his response is here. I'll post Part III later in the week.

Note: Chris, a friend, journalist and former student, has reported on the hedge fund industry for the past eight years. He lives and works in Chicago and is the managing editor of Reuters HedgeWorld.


PART II

So what are hedge fund managers doing to earn positive returns? The best and brightest hedge fund managers exploit price inefficiencies in the market. They bet against securities (stocks, bonds and their derivatives) they believe are overvalued and buy securities they believe are underpriced or that have growth potential. Different managers do this in different ways and employ varying degrees of risk. Some funds are very low-risk and are designed to provide steady, incremental returns – say, 10% to 15% per year – in all market conditions (whether stocks are way up, way down or flat). Some funds use lots of leverage (borrowed money) to increase returns, or trade in complex securities that few understand, thereby raising the level of risk. The type of strategy any particular hedge fund follows and its riskiness is outlined in its offering documents.

Speaking of offering documents, I have to digress for a second here to talk about the “gambling” issue. Rick, you wrote, “Then there’s the question of whether the top 25 actually did anything to “earn” their largesse besides gamble with other people’s money.” Hedge funds invest money on behalf of other investors, but most hedge fund managers also place their own money in the funds they manage. In fact, outside investors often won’t even consider a relationship with a hedge fund manager that does not place a substantial amount of his or her own net worth in the funds that manager runs. It’s about alignment of interests. So while the managers are investing other people’s money, they are also investing their own money.

Additionally, it's not like the hedge fund managers stole the money they invest from somewhere; when the system works correctly, investors conduct extensive due diligence on managers and make a careful and conscious decision to gamble their own money. It's up to the investor to understand what he or she is investing in. Caveat emptor!

If one wants a risk-free investment, one should buy Treasury bills or open a savings account. Historically - like over the past 100 years – stocks have returned about 11% annually and bonds something less than that. When you experience years like we had in the 90s, (between 1990 and 1999 the average annual return of the U.S. stock market was nearly double what it was from 1926 through 1999), and the same in the middle part of this decade, you can bet there's going to be a reversion to the mean. In other words, people who got in at the end are going to lose money, at least in the short term.

Instead we seem to keep buying into the notion that every time we enter a bull market, it's a "new paradigm" and the "old rules" don't apply. That's just stupidity. So of course any investment in the stock market or anything else (even Treasuries when you get right down to it) carries the risk of loss. Hell, stuffing money in your mattress carries the risk of loss (fire, flood) but without any possibility of earning a positive return.

The hedge fund manager’s job is to earn money in all markets – to be smart enough to avail himself or herself of all the investment tools at his or her disposal to earn investors a positive return no matter what. Historically, the good ones have done that, which is why they can get away with charging higher fees. In the process they have helped boost university endowment returns and protected workers’ pensions. Even last year, the worst year on record for hedge funds (the average fund was down 19%) they still performed only half as bad as the stock market. And since the bulk of a hedge fund manager’s compensation comes from the performance fee, when a hedge fund manager loses money he gives up most of his or her income. And not just for that year, either. Most hedge funds have what are known as “high water marks,” whereby the manager must make up all that he has lost and then some before he can begin collecting the performance fee again. After 2008’s debacle, some hedge fund managers may not collect performance fees this year or next year.

I make that point simply to illustrate that not all hedge fund managers are John Paulson or George Soros, that some of them are essentially small businessmen and that they also face the same risk of loss as their investors.