
New York Discovers Wall Street Charges Fees - dsri
http://www.bloombergview.com/articles/2015-04-09/new-york-discovers-wall-street-charges-fees
======
ringshall
Relevant to this discussion is Warren Buffet's 1975 memo to the board of the
Washington Post regarding investment strategy for their pension fund. He
advised being patient, investing like an owner, and eschewing highly paid
money managers. A quote from the memo:

"If above-average performance is to be their yard stick, the vast majority of
investment managers must fail. Will a few succeed — due to either to chance or
skill? Of course. For some intermediate period of years a few are bound to
look better than average due to chance — just as would be the case if 1,000
‘coin managers’ engaged in a coin-flipping contest. There would be some
‘winners’ over a five or 10-flip measurement cycle. (After five flips, you
would expect to have 31 with uniformly ‘successful’ records — who, with their
oracular abilities confirmed in the crucible of the marketplace, would author
pedantic essays on subjects such as pensions.)”

At the time of WaPo's sale to Jeff Bezos, the pension fund had a $1b surplus.

This article describes the memo, and includes a link to a PDF (thru Scribd):

[http://fortune.com/2013/08/15/the-1975-buffett-memo-that-
sav...](http://fortune.com/2013/08/15/the-1975-buffett-memo-that-saved-wapos-
pension/)

~~~
wpietri
A point he still believes in. In 2008 he made a million-dollar bet with a
highly-paid money manager:

[http://longbets.org/362/](http://longbets.org/362/)

Seven years into the bet, he's way ahead:

[http://fortune.com/2015/02/03/berkshires-buffett-adds-to-
his...](http://fortune.com/2015/02/03/berkshires-buffett-adds-to-his-lead-
in-1-million-bet-with-hedge-fund/)

For those interested in the coin-flipping analysis, I strongly recommend
"Fooled by Randomness", which is a smart, passionate, and funny examination of
how that problem plays out in the investment industry.

~~~
wcgortel
You may be interested to read the other guy's take on that bet. One of the
more interesting reads on the business of running a hedge fund I've seen.

[http://blogs.cfainstitute.org/investor/2015/02/12/betting-
wi...](http://blogs.cfainstitute.org/investor/2015/02/12/betting-with-buffett-
seven-lean-years-later/)

(Disclosure: I work at CFAI)

~~~
jcdavis
The article is bs and reeks of ass-covering (and lots of other folks agree).
If S&P 500 was such a bad benchmark, why did he bet $320k on being able to
beat it? The other points (interest rates etc) amount to "We couldn't predict
the future", which would normally be fine, but not when you are charging 2 &
20 to do so.

Edit: a better response - [http://msantoli.tumblr.com/post/110804679383/cry-
me-a-river-...](http://msantoli.tumblr.com/post/110804679383/cry-me-a-river-
that-leads-to-omaha)

------
aioprisan
TL;DR: "So for instance in U.S. equities the funds got annual returns of 8.24
percent for 10 years, versus annual fees for U.S. equities of about 0.08
percent. So the funds got 99 percent of the returns on their investment, and
the managers got 1 percent of those returns. Again, paying managers 1 percent
of the returns they generate does not seem particularly egregious to me,
though I suppose there's an argument the other way."

"None of this seems like a blanket reason to condemn "Wall Street," but, you
know, politicians gotta politick. My takeaways are something like:

1\. New York pension funds' performance is fine.

2\. They pay fees that, over all, are quite low.

3\. Their alternative investments seem to somewhat outperform public-market
benchmarks, though maybe not as much as they'd like."

~~~
astazangasta
Orly? So you're OK with paying an extra 1% above the market rate on your
mortgage? Because that's the kind of thing you're talking about. 1% a year
will eat quite a lot out of your retirement over 40 years. I.e. 40%.

~~~
lelandbatey
The fees are 1% on _returns_ not on the "balance" as it where. The total fees
as a percent of total invested assets are 0.2% per year.

~~~
chriogenix
the fee is not on the return its on the balance. so if you make money, they
make money. if you lose money they still make money. mutual fund feeds end up
being massive over a long period of time which is why financial advisors do so
well if they have a big enough asset base

------
guelo
The whole article is premised on the idea that Vanguard's fee is low at 0.17%.
But is it really? In a free competitive market fees for algorithmic or
mechanical money management would probably be a small flat fee. Vanguard's
costs are not proportional to the amount of money under management.

~~~
jcdavis
The 0.17% is only for the "investor class" shares, which starts at 3k. Invest
10k and you get "admiral class" shares which charge only 0.05%. At $5m you can
get "institutional "which only charges 0.04%, and at $200m you can get
"institutional plus" that charges 0.02%, which any big pension fund could have

~~~
obstinate
That's really interesting. So you could put $200M of assets into a Vanguard
fund and only get charged $40k/y for that. It seems like a very small number
when you put it that way.

~~~
alextgordon
Which begs the question, how are they _really_ making their money?

~~~
cmdkeen
Because they have $3 trillion in assets under management - which is $600m a
year even at 2 basis points in fees, which not everyone pays. Economies of
scale ramp up quickly.

~~~
pbhjpbhj
With that sort of weight of assets surely they can push the market around
enough to gain no matter where prices move?

~~~
Lazare
I see you're getting downvoted, but no one is bothering to explain.

First, the market _in general_ works in the exact opposite way. You can invest
a million dollars a lot of places; with enough luck and skill you'll earn a
great return. Keep doing that and soon you'll have, say, 500 million.

But 500 million is harder to invest; you might say "stock X is really
undervalued; I'm going to go long!", but if stock X has a market cap of 10
billion, you'll struggle to find 500 million in shares to purchase on a whim,
and in so doing, you'll push the price up, and now it's no longer undervalued.
Many investments that work for the guy with 1m don't work for the guy with
500m.

But if you keep going and keep being lucky (or skilled) you might end up with
billions or hundreds of billions. Now you're basically fucked. Most possible
investments don't have the liquidity or capacity to absorb the money you're
trying to place. At this scale you aren't picking companies; you're picking
industrial sectors or countries. You'll never make a great return like that.
Plus you're being watched constantly; the merest rumour that you're about to
invest will end prices soaring or crashing before you can move. You can "push
the market around", but only in ways that benefit smaller, nimble players, not
you. At that scale, your ability to be clever is basically nil.

Which brings us to the second point: Vanguard is an index fund. They simply
buy an even mix of the shares that make up an index. Their entire
strategy/promise is that they won't "push the market around" (which is the
reason they have $3t under management; people explicitly looking for people
who won't try and be clever).

So your question is "couldn't Vanguard do the one thing they don't do, because
it can't work"? And the answer is no, it can't work, which is why Vanguard
exists and has those assets.

~~~
pbhjpbhj
Thanks for your comment. I didn't ask if an index fund could move the market,
I asked if an investor with so much couldn't move the market.

One guy bought 15% of the world's cocoa and now chocolate prices are high and
manufacturers are trying to rip off consumers by filling thick plastic
packages with more air and less chocolate bar.

If you had control of that sort of money it just seems you could be invisible.
The cost of the entire coffee production of the world is only billions, buy
any significant percentage and there's going to be companies who'll either pay
or collapse?

~~~
Lazare
> I asked if an investor with so much couldn't move the market.

Well yeah. Start to buy Apple shares, and the price rises, and you pay more
than a smaller investor would. Try to sell them again, and the price crashes,
and you receive less than a smaller investor would. As I already explained,
you've got it backwards.

> One guy bought 15% of the world's cocoa

Yes, years ago. And it was 7%, not 15%. And like pretty much every cornering
scheme, it didn't work. Armajaro ended up in trouble when cocoa prices dropped
while they were still holding a large inventory, and they had to sell their
commodities trading division off just to cover their losses, because of the
same dynamics: The only way they could buy 7% of the worlds yearly cocoa
production was by paying a premium—and the only way they could get rid of it
was by offering it as a discount.

> If you had control of that sort of money it just seems you could be
> invisible.

The exact opposite of invisible, actually.

> The cost of the entire coffee production of the world is only billions, buy
> any significant percentage and there's going to be companies who'll either
> pay or collapse?

Not a good plan. :)

~~~
pbhjpbhj
I'm going to challenge you for sources on Armajaro - the cocoa price vastly
increased following his scheme and his commodities trading business has won
incredible gains.

Armajaro did 2 major trades [I confused the two], the first in 2002 at 15% of
the crop ([http://www.theguardian.com/business/2013/dec/21/coffee-
globa...](http://www.theguardian.com/business/2013/dec/21/coffee-global-
speculating-anthony-ward)) and the second in 2010 at when he took delivery of
7% (that you noted; IIRC he purchased more but took delivery of this
portion??):
[http://www.tradingeconomics.com/embed/?s=cc1&d1=20000101&d2=...](http://www.tradingeconomics.com/embed/?s=cc1&d1=20000101&d2=20151231&url2=/united-
states/stock-market&title=false&h=300&w=600&ref=/commodity/cocoa) \- notice in
2002 to 2007 the price ramps as it does 2010 to present.

Now the official story with Amajaro is that (eg
[http://www.ft.com/cms/s/0/8fb81fa0-5374-11e3-9250-00144feabd...](http://www.ft.com/cms/s/0/8fb81fa0-5374-11e3-9250-00144feabdc0.html#axzz3WuxZt6zM))
he lost "millions" but I've not been able to find specific details of this
trade and the selling on of the cocoa. He purchased 7% of a crop that his CC+
fund bets on price changes of - the fund is making large gains
([http://www.valuewalk.com/2014/06/anthony-ward-
letters/](http://www.valuewalk.com/2014/06/anthony-ward-letters/)), ~15% in
2010.

The above FT story reports that the problem with the trade was that customers
expected extended credit and despite a $55M for 6% investment the company,
doing many other deals, went under; reported as a credit issue. They sold for
$1 to another commodities trade company [Ecom Agroindustrial Trading], FT
reports Amajaro Trading was valued at $200M-$300M in 2012. I'm skeptical as to
whether Amajaro made a personal loss in any of that, whether it's possible
that the price was artificially lowered to sell on a lot of commodities for $1
and avoid tax? Does that seem at all possible?

As a complete novice to the field, could you explain why it's not a good plan
in general to seize large proportions of a commodity, for example in these two
positions with an increasing price and a stable retail demand for the end
products?

~~~
Lazare
I'm not really sure what you're asking.

Armajaro trading arm bought something like 240,100 tonnes of cocoa for around
£650 million, or ~£2,700 per tonne, in July 2010. They then sold the cocoa
beans "later that year".

Unfortunately, July 2010 was the peak of the market (it's almost as if trying
to buy 7% of global production drives prices up), and they were paying above
the odds even then. And prices immediately tumbled off a cliff, dropping to a
low of ~£1,8200 in November 2010 (it's almost as if trying to sell 7% of
global production drives prices down!), before rallying briefly in 2011, then
proceeding to briskly tumble to a low of ~£1,330 per tonne in 2012. (They've
since recovered, but they've yet to break £2,000.)

So yeah, obviously Armajaro lost a bunch of money on that trade, precisely
because of the volume they were working with. By actually taking delivery,
they were relying on prices going up, but prices went down, right as they were
needing to sell. Except that because they were buying and selling hundreds of
millions of pounds of cocoa, they _themselves_ were a leading cause of the
markets moving against them. The same thing happened in other famous market
corners, for example when the Hunt brothers tried corner the global silver
market (and lost a staggering amount of money). It's no accident that there
are no famous _successful_ market corners.

Incidentally, I'm not sure what the graph you linked is meant to be, but
here's a good graph of cocoa prices over the relevant period:
[http://www.indexmundi.com/commodities/?commodity=cocoa-
beans...](http://www.indexmundi.com/commodities/?commodity=cocoa-
beans&months=60&currency=gbp)

> whether it's possible that the price was artificially lowered to sell on a
> lot of commodities for $1 and avoid tax? Does that seem at all possible?

Not following. If you're asking if it's possible if Anthony Ward sold a key
part of his trading empire to a hated rival for $1 not because he'd lost a ton
of money trading cocoa and the thing was basically worthless, but because he'd
made a ton of money and it was actually hugely valuable? Then the answer is
no, of course not.

> As a complete novice to the field, could you explain why it's not a good
> plan in general to seize large proportions of a commodity, for example in
> these two positions with an increasing price and a stable retail demand for
> the end products?

First, cocoa doesn't have a steadily increasing price, and while retail demand
might be stable, the supply situation is very volatile due to political and
economic instability in the growing regions. Cocoa prices were bouncing around
like crazy, and while volatility is good for smart traders trying to make bets
about price directions, it's bad for people trying to deal in the physical
commodity, because what happens if you get stuck with 240 thousand tonnes of
cocoa purchased when the price crashes?

Second, even if cocoa was a safe commodity with stable supply, demand, and
price, you can't "seize large proportions of a commodity"; what you can do is
start buying it. And the more you buy it, the less stable the price is going
to be, because the demand is no longer stable due to some wannabe Bond villain
is buying up huge amounts of it. The price will skyrocket. So when you ask:

> why it's not a good plan in general to seize large proportions of a
> commodity

Because you'll pay a large premium over the fundamental market price. Like, by
definition. And buying anything for a large premium over the market price is
never a good idea, unless you value it well over the market price. But
Armajaro wasn't a producer; all they could do with the cocoa is sell it.
Which, inevitably, they'll do at some discount to the market price. Nor would
this trade have made sense if Armajaro had known that prices were going to
spike due to an external shock; then they should have bought options, not
actual physical cocoa.

Bottom line: Buying very large amounts of a physical commodity in order to
profit from price movements is a terrible idea.

Edit: The largest purchase of cocoa ever was done in 1996 by...Anthony Ward,
working for Phibro at the time. He bought 300,000 tonnes, but Phibro lost
money on the deal when prices moved against him. Shocking! Although he is
reported to have made money on his 2002 trade. Then again, the 2002 trade was
only 5% of the market, or 200,000 tonnes, smaller than the other two. (The
Guardian says 15%, but you can't trust the Guardian with numbers, and multiple
other reports confirm the lower figure.) Or in other words, Ward has
demonstrated the ability to make money on small trades, but lose them on
bigger ones.

~~~
pbhjpbhj
Thanks for your insight and continued patient responses.

>" _Armajaro trading arm bought something like 240,100 tonnes of cocoa for
around £650 million, or ~£2,700 per tonne, in July 2010._ " (Lazare) //

>" _Then the answer is no, of course not._ " (ibid) //

The ICCO [1] has an interesting section at paragraph 31 on page 10 where it
discusses this tonnage [at arms length] and says a group of interested parties
made appeals that unfair trading was attempting to manipulate the futures
market. This suggests that those companies were thinking something along the
lines of what I was suggesting: that this purchase was trying to manipulate
prices, so the money made would not be from the trade directly.

>"[...] This price development on the London market led 16 cocoa companies and
trade associations to send a letter to NYSE Liffe to complain that “a
manipulation of the contract” was “bringing the London market into disrepute”.
Many market commentators argued that this backwardation was fuelled by a
squeeze, which is a trader or a group of traders deliberately disrupting the
supply of physical cocoa to artificially increase the price of cocoa futures
contracts which are about to expire, and hence to profit from it while other
traders find themselves struggling to fulfil their obligations. In response to
this allegation, NYSE Liffe advised that it did not find any evidence of
abusive trading behaviour on the cocoa market." (ICCO report [1]) //

You said the price "tumbled off a cliff, dropping to a low of ~£1,8200 in
November 2010". According to the chart you linked a tonne of cocoa averaged
[?] £2.11k [in London?] in July 2010 when Amajaro made the trade. So why would
companies be complaining about backwardation then? [2] Says the price was
pushed up and rose by 0.7% after the purchase.

Presumably then those with warehoused stock that's accessible can undercut
Amajaro in order to bring down the price? But if there are sufficient goods
for this then the "other traders find themselves struggling to fulfil their
obligations" from [1] makes no sense.

Also seemingly there was a major issue with Ivory Coast [aka _Cote d 'Ivoire_]
being under a flood warning, that previous years had returned deficits in
terms of the global demand vs. the global harvest. Was this the issue that
broke Ward: There were various embargoes and shenanigans around the Ivory
Coast's presidential elections and when they eventually shipped the harvest
proved excellent and there were massive excesses [1].

> _So yeah, obviously Armajaro lost a bunch of money on that trade, precisely
> because of the volume they were working with._ //

Looks like a top estimate for that is -£72M based on the July to November
price change for 240k tonnes.

>* Nor would this trade have made sense if Armajaro had known that prices were
going to spike due to an external shock; then they should have bought options,
not actual physical cocoa.* //

Correct me if I'm wrong but you can't corner the market that way because the
seller can default; moreover a future glut can come in and wipe out your
position and/or movement of goods can alleviate the local shortfall [it's
something like 3-4 weeks to ship cocoa from US warehouses to European buyers].
Thus it wouldn't create a clamour in the market to ensure that delivery of the
commodity can continue, as was apparently the case here?

\- - -

Couple of figures that are pertinent:

* Re your edit [3] puts a figure of £40M on the 2002 trade, Wikipedia reports a £58M gain.

* Ward's CC+ fund made 15% in 2010, not exactly sure how much that is but it seems to have been £25M based on some other figures (all Amajaro funds passing £1B, CC+ being 20%, working backwards from [4]).

[1] [http://www.icco.org/about-us/international-cocoa-
agreements/...](http://www.icco.org/about-us/international-cocoa-
agreements/doc_download/442-the-world-cocoa-economy-past-and-
present-26-july-2012.html)

[2]
[http://www.telegraph.co.uk/finance/markets/7895242/Mystery-t...](http://www.telegraph.co.uk/finance/markets/7895242/Mystery-
trader-buys-all-Europes-cocoa.html)

[3]
[http://www.telegraph.co.uk/foodanddrink/foodanddrinknews/789...](http://www.telegraph.co.uk/foodanddrink/foodanddrinknews/7897075/British-
financier-Anthony-Ward-behind-658m-cocoa-trade.html)

[4] [http://www.valuewalk.com/2014/06/anthony-ward-
letters/](http://www.valuewalk.com/2014/06/anthony-ward-letters/)

------
mturmon
There has been a series of recent lawsuits that have required pension funds to
perform proper due diligence when selecting management for retirement funds.
(E.g.,
[http://www.bloomberg.com/news/articles/2015-02-20/lockheed-a...](http://www.bloomberg.com/news/articles/2015-02-20/lockheed-
agrees-to-pay-62-million-to-end-pension-fees-lawsuit) and
[http://www.retirementtownhall.com/?p=6763](http://www.retirementtownhall.com/?p=6763))

The possibility for kickbacks (or just complacency) when the ones selecting
the fund managers do not necessarily have significant funds under management
is evident.

One side effect has been the inclusion of a greater buffet of options for
retirement funds offerings from employers.

This news story seems to be another side-effect, in which people start to
realize how large these fees had been in some cases.

~~~
cmdkeen
Pension funds these days do an awful lot of work to decide how to invest, and
who to invest with. They send out RFIs which an awful lot of due diligence
questions, have access to independent consultants to advise on active/passive
strategies etc.

Active managers compete for business, and retaining clients even when
performance is good is not easy. One of the key differentiators isn't just
performance but client service - if you're investing $40bn of other people's
pensions then you want to get good answers from your active investors about
their thinking, where they see things going, risks, performance etc.

Oh and the best active managers charge relatively low fees, it is very much
not a case of "you get what you pay for" \- low fees and high assets under
management is a much better money making model for everyone.

------
anigbrowl
_One easy trick: Express it as a 10-year cost, rather than an annual cost, and
it sounds 10 times as big!_

This is an increasing and pernicious trend in political discourse.

~~~
harmegido
It's funny because the author did a similar trick.

Vanguard's fees are 0.17. The pension fund paid ~0.25. That's a small
difference because the numbers are small!

Actually, that's nearly a 50% upcharge for the fund relative to vanguard.

~~~
danielweber
Given 17 basis points for a _passively managed_ fund, 25 basis points for an
_actively managed_ fund is a fucking steal.

Saying "50% more" is completely the wrong way to look at it.

------
rodgerd
> In a competitive market for investment performance, managers should charge
> fees equal to their outperformance.

Then what's the value in a fund manager instead of a simple algorithm that
follows the market? Would you hire an employee and pay them the entirety of
the value they generate for your business?

What a preposterous argument.

~~~
p0ckets
From a link in the article: "

By Matt Levine

Here is a simple model for hedge fund fees:

1\. There are some people who can reliably generate alpha -- returns in excess
of the market return -- but those people are rare.

2\. It is somewhat difficult to tell who those people are; in particular, at
any given time, there are more people who look like they can generate alpha
than who actually can.

3\. If you are one of the people who can generate alpha, you should charge a
fee for your services that is equal to the alpha that you generate.

4\. If you are not one of those people, you should charge a fee equal to the
alpha that those people generate, because then investors might think that
you're one of them. "

~~~
defen
Ok, so I'll be the guy on the other side of this hypothetical deal. In the
scenario he's described, either I get market returns by paying the elite guy
to keep his alpha, or I get sub-market returns by paying too much to a guy who
isn't actually elite.

So, best case scenario I get market returns? Then why not just invest in an
index fund?

~~~
Lazare
> So, best case scenario I get market returns?

Yes. Note: This is a surprisingly accurate description of reality. Aggregate
hedge fund returns are goddamn terrible.

> Then why not just invest in an index fund?

Well, you should, if you're trying to maximise your expected outcome. Of
course, not everyone is trying to do that.

In particular, what if you run a pension fund which is currently underfunded,
but for political reasons is claiming to be adequately funded through the
expedient of assuming that future returns will exceed any reasonable
expectation of market returns?

If you invest in an index fund you'll get market returns; since that's not
enough this means you will miss your targets, and be unable to pay promised
pensions, at which point you'll be fired. But if you give all the funds cash
to a hedge fund, or engage in some crazy snowball derivative[1], then you'll
_probably_ do even worse than an index fund, be able to pay an even lower
percentage of the promised pensions, and you'll be fired. Which is actually no
worse for you. But you MIGHT do really well, and actually be able to pay the
promised pensions. Not likely, but if it works you avoid you getting fired,
and if it doesn't you were going to be fired anyhow, so why not give it a
shot?

All of why is completely hypothetical. The fact that many US pensions funds
are horribly underfunded using any plausible actuarial projects and are
simultaneously investing heavily in exotic asset classes is just a funny
coincidence.

[1]:
[http://www.bloombergview.com/articles/2014-05-02/portuguese-...](http://www.bloombergview.com/articles/2014-05-02/portuguese-
train-company-was-run-over-by-a-snowball)

~~~
msandford
If the guy generating alpha keeps most/all of his above-market alpha, then
that means there's none for me to get or keep, right? I can't see how that's
attractive at all.

~~~
Lazare
That's the point. An ability to reliably beat the market is like having a
goose that lays golden eggs.

If the ability exists at all, it's certainly very rare. And if you _are_ one
of the people who has it, why would you hire that ability out to other people?
The guy who owns the golden goose is going to sell the eggs, not rent the
goose out. Or if he _did_ rent the goose, it would be for an amount no lower
than the expected value of the eggs because otherwise he's losing money.

But given these dynamics, that means that there's no reason to think that if
you see some guy offering to rent a golden goose it would be a great deal for
you. I mean, he's actively trying to price it so it's not, and it's his goose,
so he's probably right.

------
lionhearted
Surprisingly good article.

I wonder if index funds ever get widespread enough adoption that they start to
drive prices of the major indexes up and underperform... maybe it sounds crazy
right now since institutional investors don't really go for index funds
heavily, but if there's a shift on those parameters I could see it happening.

Also, I've started to get more down on index funds as I look into them more.
An index that has a weighted average of the stock market is always paying for
past performance -- you're going heaviest on the largest market cap stocks
always. In an era with both stability and upside for large market
capitalization stocks it'll do well... in an era where the best private
companies don't IPO until they've ran out most of their growth trajectory and
then IPO once they've relatively stabilized, you're going to get hammered, no?

~~~
gd1
As you rightly realise, we can't have a situation where all money is blindly
invested in passive index trackers, since everyone will be following the herd
and no one will be leading it.

If active managers are under-performing, then at some point as passive funds
grow we will reach an equilibrium point where they are causing such price
distortion that they will produce opportunities for active managers to profit
from mispricings, correcting the situation.

------
harry8
The revenue model for investment managers is an annual wealth tax on their
clients no matter how bad the returns! Hell of a way to charge fees, huh?
Would we all love it if computer programming services were charged as a
percentage of the market cap of the customer who needed the work done! But
it's Wall St so everyone just accepts a wealth tax model. Then we take them
seriously when they repeat their bullshit when to distract from their wealth
destroying fees they scream "HFT" "Short Sellers" "The Frickin' Bogeyman"

------
wavesounds
The biggest sham is that Wall Street has convinced us all that they deserve to
paid in percentages! Sure %0.2 doesn't sound like much until you realize its
$200 million dollars a year. Why is everyone so afraid of just hiring a few
smart economists paying them $200k each salary? Nobody really beats the market
over the long term anyway.

~~~
learnstats2
Because somebody already hired those people for a fixed wage and is smart
enough to charge us a percentage for it?

------
lifeisstillgood
This looks simple on the outside - is it really necessary to pay a percentage
fee when investing this much money? I would suggest that the number of funds
in excess of 100bn in the world must fit in a decent sized auditorium. That
makes "Unionisation"'of the market quite possible. One could easily see a
situation where all the funds just said "50 m pa or fuck off"

So my question to HN is - what is so hard (or not) about making market returns
for a fund of this size?

I mean the obvious approach seems to buy 100m worth of shares in the top 1000
companies and just hold?

Perhaps it is worth not being fully invested all the time? Perhaps just making
market is not worth it - but if it is, is the saving in fees compensating?

~~~
dragontamer
> So my question to HN is - what is so hard (or not) about making market
> returns for a fund of this size?

Boggleheads have been asking that question for like 40 years. Vanguard funds
(which simply pick the top 500 shares, or all the shares... depending on the
fund...) outperform something like 85% of actively managed funds.

One theory is that modern markets are extremely efficient, which means that
actively managed funds do not provide a benefit over just "trusting the market
price" of various things.

~~~
lifeisstillgood
So, and this is a naive question, why on earth does a Vanguard fund charge a
percentage for what seems to be very simple administration (sell 1000000
shares in X, buy 100000 shares in Y, make sure VWAP is good).

I mean - if I was a trustee of a million fund let alone billion I would expect
to know the baseline level of dumbest simplest possible investing process.
That approach seem the simplest.

~~~
dragontamer
> So, and this is a naive question, why on earth does a Vanguard fund charge a
> percentage for what seems to be very simple administration (sell 1000000
> shares in X, buy 100000 shares in Y, make sure VWAP is good).

Because Vanguard's prices are the lowest. Where else are you going to go?

The typical fund charges between 1% to 2%. Vanguard charges 0.05% if you
qualify for Admiral Shares ($10,000 minimum). Various ETFs can drop down to
that amount, but you still have to deal with tracking error and commissions.
$7 per trade typically... while Vanguard doesn't charge commissions if you own
a Vanguard account and buy Vanguard Funds (or ETFs).

~~~
lifeisstillgood
I suppose my question is better framed as - why is the cost of trading so
high? Presumably the stock exchange will charge per transaction, but if I have
100bn invested across 10,000 equities, at a dollar a piece, that's 10M shares.
If I make transactions of just 100 stocks per time, that's a whole refresh in
100,000 transactions. Do that 12 times a year at 5 dollars per transaction and
I see a mere 6 million cost to look after 100bn in invested funds.

So ... What am I missing. Exchanges all use electronic trading now, Charles
Schwann would give me 5 bucks per transaction.

Why does anyone pay percentages?

------
jim_greco
Matt Levine does a great job of explaining scaremongering from the media
(lately, mostly from the NYTimes) about Wall Street.

My favorite is the Goldman Sachs aluminum "scandal" from last year:
[http://www.bloombergview.com/articles/2014-09-03/the-
goldman...](http://www.bloombergview.com/articles/2014-09-03/the-goldman-
sachs-aluminum-conspiracy-lawsuit-is-over)

There's a lot of bad stuff that happens in finance, but we shouldn't be
whipping out the pitch forks every time someone makes an accusation.

------
hurin
So what Mr. Levine is saying here, is that the expense for fund management is
expected to scale nearly linearly with fund-size and New Yorkers have nothing
to complaint about.

~~~
tsotha
Larger funds do cost more to manage. There's a point at which you have to
diversify not to mitigate risk but because large buys drive up the cost of the
purchase. Also, there are a whole bunch of extra SEC rules that kick in when
you're changing your position in a stock in which you have a nontrivial
percentage of outstanding shares.

------
oh_sigh
Why aren't fees capped at some limit? Like...maybe 100 million per year? I'm
just curious how much harder it is to manage a $100bn fund vs a $200bn fund.
Is it twice as difficult?

~~~
yummyfajitas
It's definitely more difficult. Let me give you an example.

I'm currently running an algo that is giving me returns of about 25-30%/year.
I do this as a hobby - I don't generally devote more than 10 hours/week to
this. Why doesn't NY just give me their money? Why aren't I the greatest
investor ever?

The answer is that my algo consists of watching the market and picking off
liquidity from the top of the book (typically < 500 shares) when things get
unbalanced. Then I passively (for the most part) close my positions a couple
of weeks later, very rarely taking liquidity.

I made $2k last year on approx $10k in the market. If I put $20k into the
strategy I'd be losing money by taking liquidity from deeper in the book.
I.e., buying 500 shares might cost me $10/share but buying 1000 shares might
cost me $10.10/share. I'd lose another $0.10 closing my positions, and shaving
off $0.20 in profit per trade would kill my profits.

If I were investing 5-10x as much, phrases like "very rarely taking liquidity"
would not even be possible - I'd have to take liquidity and I'd then lose the
spread as well. And if I were investing 100x as much, I'd be moving the market
and losing even more.

~~~
laurentoget
i hope you are having fun doing it, cause at $2/years for 10 hours a week,
you're paying yourself half the minimum wage.

~~~
yummyfajitas
"I do this as a hobby..."

I also earn a bit more than $2k on other strategies. I was just describing my
highest return strategy and explaining why it can't scale for the sake of
discussion.

The real benefit of trading, and why I encourage most quant devs to do it
_even if they lose money_ is that it is great mental exercise. When you make
mathematical or rationality errors, the market punishes you by taking your
money. That's my real reason for actively trading.

------
mjfl
I used to intern at a quant fund and our biggest clients were always pension
and social security funds, which we charged a standard fee for assets managed.
This would often be around $200 million - $2 Billion. Not sure if it is new
information to people. I always felt slightly fishy about it.

------
greedoshotlast
A missing point:

It is very common for management fees to follow an 2 and 20 Fee Structure.

Meaning they charge a flat 2% to keeps the lights on and pay outrageous
salaries. Then above a certain threshold an additional 20% of any profits
earned.

Why does this matter?

IHMO this motivates funds managers to accumulate large AUM (Assets Under
Management) to make that 2% larger. The fund manager is less motivated to make
good returns since he knows he will still collect that 2%. So it might be
better to remove the 2% flat fee and simple charge a percentage on the profits
earned. This motivates the fund manager to actually generate returns before he
makes a buck. Even if the market is going down he will still be motivated to
outperform.

------
putzdown
"Managers should, on the whole, charge more than the value they add." But
wouldn't that, trivially, make every managed fund always and inevitably less
desirable than every unmanaged fund (assuming they aren't for other reasons)?

------
dreamdu5t
Why is everyone focused on the fees being charged and not the total idiocy of
the city of New York? The real outrage here is New York doesn't seem to know
what they're doing with managing pension funds.

------
lifeisstillgood
Would it be sensible for a fund trustee to ask to divide the fund in two - one
managed as per usual, one simply invested by an internal hire into a simple
market tracker (ie no percentage basis).

And see which pays better?

------
maxk42
> those managers gobbled up more than 95 percent of the value added

So they added value above and beyond the benchmark and you're complaining that
they expected compensation for this service?

~~~
sukilot
If they underperforming benchmark will they eat the loss?

~~~
harry8
This. They get a free option, they get upside exposure for zero downside risk.
Hell it's even a sweeter deal, they get paid as though they got the upside
even if they screw up royally. How did all those funds miss that all those
securitized mortgages were junk and not AAA? Just like this. S&P say it's fine
so Larry, fancy a round of 18 before our business lunch?

------
wodenokoto
I'm a bit confused about what the author means when he says that managers
should charge equal to the extra value they add to a portfolio.

Why should I hire a manager that beats the market, he he charges the amount he
beats the market with? Wouldn't that leave me of the same as simply averaging
the market?

~~~
bmelton
Because they aren't charging the amount they beat the market by, they're a
percentage of that.

In your example, you suggest that you could get $100 by using an index, but
instead, you hire a guy who gets you $200 for not using an index, and then
charges you the $100, and you're no better off.

In the article, you could get $100 by using an index, but instead, you hired a
guy who gets you $200, and then charges you a percentage of that, keeping $4
for them to your $196.

Do you begrudge them their $4, knowing that you "profited" $96 on the deal?

Yeah, the math gets uglier when you realize you're talking about much larger
numbers, but the clients, e.g., the pension funds, still came out ahead
against the index, even after the managers took their fees.

~~~
smcl
Take the numbers you've used and switch them around slightly to reflect the
NYC pensions situation and you can see why they'd be upset. It's not $4 in
fees to an additional $96 returned to the client, it's $2billion in fees
versus an additional $40m. Scaled back to your example that'd be like hiring a
guy who gets you $200, keeping $98 for your $2.

~~~
bmelton
That would be incorrect. I just used numbers that weren't reflective of the
article.

To keep (dumbly) using my simple numbers, while still using their percentages,
it would be more like this:

You could get $100 by using an index, but instead, you hire a guy who gets you
$103 for not using an index, then charge you a $2 fee, leaving you with a
"profit" of $1.

At the end of the day, the fund recipients _still_ come out ahead, just not as
much ahead as if the managers charged no fees. If you can figure out a way to
get people to work for free, and do a good job on top of it, then you'll have
surely cracked the code (or reinvented slavery). Until then, it's hard for me
to demonize a money manager who charged two percent over ten years, even if it
was two percent of a very large number.

------
SQL2219
This sector is loaded with opportunities to undercut the traditional players.

~~~
Nicholas_C
The problem is you can't just create a startup fund and go in there and take
on funds from pension funds by undercutting the establishment. You need loads
of expertise, relationships, and a proven track record. And if you have all
those things then you are a part of the establishment and already making swell
money so there's no point in rocking the boat.

------
sfjailbird
Really puzzled how this is the top item on the Hacker News front page.

------
ForHackernews
Alternative title: Financial press publishes financial industry apologia.

------
redwood
Sad to see how hot the quant subject has become on here. Weakens nyc tech.
This always happens when the bull market approaches peak.Suddenly every fund
feels special because every fund is a winner.

