How much of GAM's assets are currently in fund of hedge funds?
Smith: GAM currently manages assets of about $35 billion, of which around $20 billion is dedicated to hedge funds. Our multi-manager business has grown significantly this year. In the first eight weeks of 2004 we received an inflow of $3 billion. After the solid performance from hedge funds in 2003, fund of hedge funds have been very much in vogue. I think GAM has benefited disproportionately from this trend due to our reputation and track record.
How much of this is invested in Asian-focused hedge funds?
We have over $2.5 billion dedicated to Asian hedge funds, which represents just over 10% of our multi-manager assets. About 70% of our hedge fund investments are with managers at early stage situations and we've seeded several successful Asian hedge funds including Ward Ferry, Optimal Japan and JoHo.
Our dedicated Asian fund of hedge funds currently stands at $378 million. This has been soft closed for a while, but we've in $100 million during the last two months, as we found a couple of good arbitrage funds in Asia that we decided to make investments with.
Recently we established a research office in Hong Kong to help us monitor existing as well as potential investments more closely. Andrew Hudson is based in Hong Kong to fill this role and he reports to Kier Boley, who heads the Asian multi-manager fund.
What's been the trigger point for the growth of the hedge fund business in Asia?
In the 1980s, hedge funds operating in Asia were really the big macro shops like Soros, Tiger and Tudor. Independent Asian-focused boutiques hadn't started yet as investment managers in the region were not wealthy enough to walk away from their jobs, nor did they really have the mentality to run hedge fund strategies.
The watershed came in 1998 after the Asian crisis, when fund managers either found themselves out of job, or felt the opportunity cost of leaving their jobs was not that high anymore. Since then, the region's hedge fund industry has established credibility in its own right, in the main centres of Tokyo, Hong Kong and Sydney.
But I've yet to see an Asian rock star among the region's hedge fund managers. In the US and Europe you have managers who've already earned their first $50 million. After that, it's not about the money anymore. Asian hedge fund managers have not reached that stage as yet.
Do you think that Asia is now where Europe was three years ago?
Certainly this is a valuable comparison to draw. Everything I saw in Europe in the late 90s is present in Asia now. But, I think the pace of growth for the Asian hedge fund industry will very much depend on how fast the global industry grows. At around $55 billion, Asia is now about 5% to 7% of global hedge fund assets. I see no reason why this share shouldn't jump to 10% over the next three years.
It's been a tough year for hedge funds globally, how has GAM's performance faired this year?
Admittedly, our performance has suffered because of market conditions. Our worst fund is down 2%, but this has nothing to do with individual manager selection. It's all because of asset allocation. About 35% of our portfolio is allocated to CTA's and macro funds, two strategies that have been particularly battered over the last few months. All funds in this space have been down between 5% to 10% and this has been a drag on our performance.
At GAM, we don't believe we should be making bets on tactical asset allocation. I've met with world famous investment managers, and they all say the same thing - tactical asset allocation is a waste of time. If the best and brightest in the world say this, it strikes me as odd that people expect their fund of hedge fund manager to do this. Not only does this involve the fund of hedge fund manager predicting what is going to happen in financial markets tomorrow, but with most hedge funds requiring 90 day notice periods, he has to predict what will happen three months from now.
Most fund-of-hedge funds allocate about 60% to arbitrage strategies, 30% to equity hedge and about 10% to trading strategies. At GAM we take a very different approach. We believe equity hedge and arbitrage are too closely correlated, so we maintain a substantial 30% to 35% allocation in CTA and trading-based strategies. The remainder is split: 40% to 45% in equity long/short, 15% to 25% in arbitrage and around 5% credit hedge. Our allocations change very little over time.
Where we feel we add the most value is identifying and spotting talent. On a manager selection level, we've outperformed in spotting the best managers in each category.
How have your clients reacted to performance this year?
We look to shine over the long term, not over the span of a few months. Our investors understand this rationale and our investment approach. They know our main priority is to satisfy them.
I tell investors that I'll do my very best to make them money every year, but I don't give them promises on how much. When there is a year like this one where nothing really happens, good or bad, where there is no volatility and no trends, then it is a challenging environment for hedge funds.
I think this down turn in performance is good for the industry in general as it helps investors put their expectations in perspective. In my opinion there are other large industry players misleading investors by making promises they cannot deliver. Investors will now be in a better position to understand what they can realistically expect from this asset class.
You say GAM's edge is in spotting talent. How do you identify this?
I think it boils down to taking a very diligent and methodical approach to evaluating managers. This methodological approach gives us an edge. I'm very anal and believe that one should carefully analyse all the facts available when making judgements.
We have six key investment professionals who make the big difference in these decisions. Our team has also doubled in the last 12 months and now consists of 75 people. For each new person that joins our team, I try to teach them about the various data points they need to look at when making our judgements.
We look at the all the normal factors when making our judgements like prior experience, risk management etc. But on the investment side, what we're really looking for is a manager who has set up an investment process that builds on his personal views. We are looking to see whether the investment strategy the manager has chosen best exploits his special talent and suits his thinking and approach.
In America and Europe we tend to see people build processes around themselves. In Asia we've seen less of this, people here are still trying to copy everything they've seen elsewhere. They are still trying to give investors what they want, rather than build on their unique talents.
For us, a hedge fund investment is just a trade, it's not something that we should get emotionally attached to. Our turnover of funds is about 35% per annum, which is about 40 to 50 managers a year. People think that we spend most of our time looking for new managers, but in fact we spend 70% of our time monitoring existing investments. Our analysts stay very close to our managers, and that is how we avoid blow-ups. Usually the signals we see are the smallest breaches, which might seem insignificant, but actually are symptoms of larger problems.
I think it is important to treat our hedge fund managers with the respect they deserve. I do not believe we should be arrogant just because we have money to allocate. The hedge fund managers are the true geniuses, although we add value by identifying them. We may be the gallery owners, but we are certainly not the artists.
