
Hedge-fund managers that do the most research will post the best returns - anonu
https://www.cnbc.com/2018/03/20/doing-your-homework-does-lead-to-better-investing-returns.html
======
thedevil
Around 2008, I read some public filings by banks. I made only two back-of-the-
napkin adjustments: 1) I combined off-balance sheet assets and liabilities
into the balance sheet, and 2) I changed the expected % losses to
approximately that of Wells Fargo.

With those two simple adjustments, I saw that some big banks were in the hole
by (combined) tens of billions of dollars.

The market prices for these banks made it clear that major investors either
didn't read or didn't understand the data in the public filings.

Fun fact 1: My bank WaMu which was itself was maybe $0-$10B in the red so I
immediately withdrew $2K in panic. I found that money hidden in my filing
cabinet about 5 years ago.

Fun fact 2: What was even more crazy is that a famous private equity firm (I
think TPG) had just dumped in billions of dollars into WaMu but that still
didn't fill the hole (and why would such a big firm be less sophisticated than
a nobody like me?)

Fun fact 3: FDIC had ~$50B at the time, which maybe wouldn't cover the losses
at the pessimistic end of my estimates.

Fun fact 4: In accounting classes, I identified 3 very shady areas of
accounting: options, off-balance sheet entities, and pensions. I believe the
first two have since been fixed but I think pension accounting is still very
shady so... beware.

Disclaimer: I studied finance and accounting in school and read 10-Ks in my
spare time in the early 2000s so I have some knowledge of accounting
shenanigans. I also had some experience in real estate. But that's about all
the expertise it took.

(Several edits made to improve readability.)

~~~
padobson
Are there any possible holes in the making you see now? I was curious for a
while if crypto was going to pose a systemic risk, but the total market cap[0]
was never really high enough.

[0][https://coinmarketcap.com/](https://coinmarketcap.com/)

~~~
charlesdm
You say that as if it's over. I'm willing to bet a significant amount of money
that it will pose a systemic risk in a few years.

~~~
ojr
there are CFTC regulated bitcoin futures (CME/CBOE) where you can bet on the
price dropping in a scenario where it becomes a systemic risk

~~~
charlesdm
Before the price can drop like that, it needs to become a systemic risk first.
Meaning I think it will first still go up significantly before coming down.

------
wgerard
Not surprised at all. Anecdote:

A friend and I used to run a website that tracked activist short sellers and
their campaigns, and published all that information as a nice centralized
database basically.

Hedge funds were, by far, the most interested in this - which was surprising
to us, our original target audiences were auditors and legal firms. My
impression from this experience is that the more successful hedge funds are
just mass-ingesting data from everywhere they can, and somehow trying to make
sense of it.

It's totally an arms race too: Once one of them is ingesting data from a new
source, everyone else has to start doing it as well lest they fall behind. It
was significantly easier to convince new clients once we had a few clients
already (very much like the FOMO people speak about when fundraising).

~~~
dsacco
Did you keep up with that project or move on to something else?

It's humorous to me that most people who end up selling data to hedge funds
more or less "fall" into that industry by accident. Your story is exactly how
it typically happens: you develop a new data-enabled product for one market,
then a bunch of hedge funds find it and realize it's useful. Most companies
pivot from their original market once they realize how lucrative selling data
can be.

~~~
wgerard
We moved on - my friend was in business school at the time, and thought that
continuing on with the project would be detrimental to his job search (he was
looking at joining a hedge fund).

Yeah, it was a very sudden shift. We always knew they were potential
customers, we just didn't realize how quickly they would take to the product
(as opposed to legal firms which you can imagine are significantly more
bureaucratic about such things).

~~~
whatok
Anything I've ever wanted (within a certain cost) has always been signed off
immediately/practically did not require approval. It's very easy to sell a
relatively cheap (compared to some of the other subscriptions sold to hedge
funds) service to an organization that's extremely flat.

------
avvt4avaw
Here is the paper, which is not linked in the news article -

[https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3127825](https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3127825)

~~~
sdhgaiojfsa
So they have an advantage against other hedge funds, but . . . most hedge
funds underperform the market. So all you're doing by doing research is
closing the deficit.

------
synaesthesisx
I personally know and have worked with a few people who manage hedge funds
(with a combined hundreds of millions in AUM). So fun fact: one of the tight-
lipped secrets about the hedge fund industry (which could arguably also be
said for a lot of the financial industry) - is that none of them _actually_
know what they're doing.

Characters like Ackman, Shkreli, etc all sell the _idea_ that they know what
they're doing, when the reality is it's simply gambling with other people's
money with minimal risk. Luck will favor some, and others...not so much. The
entire industry is essentially a collective delusion/sham.

~~~
physguy1123
This is certainly true of most stock-picker type hedge funds, but there are
legitimate strategies that aren't a shirty replication of an index fund.
Unfortunately, stock-pickers have somehow become most of the industry seem to
be most of the industry (probably because there's no real talent or capital
constraints on them).

------
dzonga
Isn't all Warren Buffet & Charlie Munger do for a good portion of the day,
like 6 hours is 'READ & THINK'. Then do nothing else.

~~~
rockinghigh
As a CEO of a conglomerate with 370k employees, I doubt Warren Buffet spends
most of his time picking stocks.

~~~
sumedh
That is what he say he does pretty much all day, he believes in extreme hands
off approach so that he does not have to waste time with the day today
operations of running a conglomerate.

------
bilkoo
Well couldn't it have been the opposite? Hypothesis: maybe this kind of
research has the least marginal return, therefore only the most profitable
funds are willing (or able) to invest in it (Bridgewater would invest $10M for
0.1% of improvement while a small fund can't afford that luxury given that
0.1% is fund size independent).

~~~
chris11
I don't know, I would think that the cost of finding good investment
opportunities would increase as a fund gets bigger assuming all the funds have
enough money to operate well. An opportunity to invest 20 million dollars with
an expected profit of 50% would be a lot better for a fund managing $300
million, but not as exciting for a fund managing $3 billion.

------
hinkley
The only time I hosted a booth at a trade show, I got a few people who sounded
interested in our product at first but who quickly tangented off into more
general questions.

As one of my coworkers explained, there are investors of varying caliber
wandering around and they often aren’t interested in _your_ company. They’re
getting the gestalt from the show floor by picking any brain that will give
them the time of day.

------
vanderZwan
> _" The fact that public information acquisition relates to performance is
> surprising. SEC filings are the very definition of 'public' information, and
> therefore, usage of such information should not be profitable,"_

Honest question: isn't that a contradiction in terms? Public information
stands for "stuff that everyone is presumed to know", right? Like, economists
using an assumption of "perfect knowledge of the market regarding public
information" (or something like that, I'm obviously not an economist) as an
approximation in their knowledge. But the fact that some managers _do_ look
this up, and some _don 't_, means that this approximation does not hold. The
premise of what is implied with "public knowledge" is undermined by the very
thing being measured.

Assuming I understand this correctly, it looks to me like they essentially
correct for the error caused by this assumption of perfect knowledge, which is
the opposite of unexpected (but still a very neat finding!)

~~~
dsacco
It's not a contradiction. A better, more formal definition of "public" would
be, "information which is sufficiently accessible that its price impact has
diffused through the market." In the context of capital markets, "public"
doesn't mean that everyone knows it, it means that it's essentially accessible
to anyone (in a reasonably similar slice of time). As a corollary, it also
means that public data has more or less exhausted its (individual) impact on
the market.

Most "public" information is actually woefully underutilized. The only real
requirement for data to be public is that everyone _could_ know it, not that
everyone _does_ know it.

~~~
vanderZwan
> _" information which is sufficiently accessible that its price impact has
> diffused through the market."_

Thank you (and Retric) for explaining, but this phrasing does not quite
convince me: it does not explain _how_ this diffusion is supposed to take
place, and I for one cannot imagine a way of this knowledge to be distributed
among the market as a whole without _individuals_ knowing this information and
freely sharing it together. Which again seems to be fundamentally undermined
by what was measured.

I mean, yes, there are situations in which you can distribute knowledge among
people where no individual can see the whole picture, but together they manage
(for example, the knowledge required to turn crude oil into plastic requires
knowledge among every step of production, diffused among individuals - nobody
truly "knows" how to turn crude oil into plastic if you define that as knowing
everything involved in the process). I do not see that kind of context apply
here though.

~~~
dsacco
The price of a security is, formally speaking, a (weighted) sum of many
disparate data points related to the security. The more data is available
about the security, the more efficiently it's priced. Individuals do not need
to explicitly share information about any given security to each other for it
to spread through the market, because there exists a feedback cycle between
any security and the publicly available data related to it. The price is
literally a function of that information.

In other words, every time a security is traded, its price is updated with a
very small amount of new information. It's not important that any single
individual has all the information, it's important that the market has all the
information. That is the essential function of the market - price discovery.
No single investor (or even a team) could hope to accurately encapsulate
everything there is to know about a given security. The market "prices" new
information into a security, which is precisely what it means for data to be
diffused.

Stated another way, novel information about a security represents a potential
price inefficiency. But that price inefficiency is essentially lost once the
data has become public.

~~~
vanderZwan
> _it 's important that the market has all the information._

I'll be honest with you: when I read this my first response was _" what does
this even mean? What is "the market" and how does it "have information"?"_ I
_guess_ the sentences preceding it are supposed to explain the structure that
the market has built up to automagically capture this information, but I don't
quite follow.

I'm not criticising your comments, I'm very grateful that you are trying to
explain how this works and the logic behind it, but so far it's black-box
abstractions all the way down.

~~~
Retric
Suppose you have:

A current price aka price at last trade of 10$ and nobody willing to sell for
less than 10$ and nobody willing to buy for more than 9.99$.

A new seller shows up, if they are willing to wait they might get more than
9.99$ or they can accept 9.99$.

Or a new buyer shows up they can buy for 10$ or wait for a lower price.

Now, without effort people can just look at the history of trades and see the
price rise or fall. This is independent of whatever reason that causes more
people to suddenly want to buy or sell, just the fact that people are buying
or selling in it's self moves the price.

------
piker
Wouldn't some sophisticated shops potentially use crawlers, etc. hosted from
cloud providers (i.e., third-party IPs) that might significantly skew this
data?

~~~
fwdpropaganda
I assumed the sophisticated shops ran their own datacenters. Can you imagine
RenTech running their code on other people's computers? I can't.

~~~
sseveran
Why? The reasons for having their own datacenters are either legacy or needing
some sort of specialized hardware that is not available at a cloud provider.
Mana which is a new pure quant fund uses AWS extensively.

~~~
fwdpropaganda
> Why?

Because you don't want anyone to have access to your code and data.

If you found out that Facebook is running on AWS, wouldn't you find that
strange?

~~~
gowld
AWS, Google, Microsoft, all have lots of customers. Why are those customers
not strange but FB would be?

~~~
fwdpropaganda
In my mind, if technology is a big part of your business then running on other
people's computers only has one upside: might be cheaper. Everything else is
downsides.

Therefore, A) companies that operate at a scale where the only upside
disappears, and B) companies where the cloud saving outweights their expected
liability cost, both will have their own datacenters. Facebook is clearly in
category A, RenTech is clearly in category B. This is my understanding anyway.

~~~
YawningAngel
Public cloud is not cheap. Public cloud is really expensive. The value of
public cloud is that it's flexible (my current employer, which is massive,
uses AWS in part because it has poor governance of leased data centres) and
has hosted offerings that save time and operational overhead - it's quicker
and easier to use SQS and DynamoDB than to host Kafka and Cassandra. Cheap it
is not, however.

------
kusmi
I tried to get bulk data from EDGAR a while back. Turns out bulk data
acquisition has been turfed to a third party, which charges for downloads.
This is supposed to be federal free data, I was so pissed off. I am still
pissed off.

~~~
__john
How long ago was this?

~~~
kusmi
Half a year?

------
taneq
It's almost like knowledge is power or something.

------
meri_dian
>"Perhaps most surprising, the researchers found the median fund-month
download amount is only four filings while the mean was 672, suggesting that
relatively few funds are accessing vastly more information."

Interesting...

~~~
gowld
Not really. A million casual retail investors download 4/month, and ten-
thousand pros download all available data.

~~~
meri_dian
That statistic is about funds only, not retail investors...

------
padseeker
It's not good enough to be the best hedge fund manager. You need to make more
profit that investing in a boring index fund, including the additional
overhead of moving money around. And the research seems to show that most fund
managers do not.

[https://www.npr.org/sections/money/2016/03/04/469247400/epis...](https://www.npr.org/sections/money/2016/03/04/469247400/episode-688-brilliant-
vs-boring)

------
whatok
Two things I can gather from this if it happened to hold true across the hedge
fund universe:

1\. Large shops employ a lot of fundamental analysts and larger funds only get
large through outperformance.

2\. Less on the fundamental side, funds regardless of size that have automated
retrieval (and likely processing of public filings) probably have a higher
than average disciplined investment process which leads to outperformance.

------
source99
How did the university get the IP addresses of computers that access the SEC
website?

~~~
batterseapower
Public info: [https://www.sec.gov/dera/data/edgar-log-file-data-
set.html](https://www.sec.gov/dera/data/edgar-log-file-data-set.html)

------
radnam
Is there a good resource to help understand how to read/interpret SEC filings?

~~~
hbcondo714
You can try my site Last10K.com which uses sentiment analysis to find &
highlight positive & negative remarks in lengthy 10K/Q filings. Here's an
example from Burlington Stores' 10K this week where we found 60 positive and
15 negative remarks by their management team:

[https://www.last10k.com/sec-
filings/BURL#fullReport](https://www.last10k.com/sec-filings/BURL#fullReport)

------
MaysonL
The most surprising fact for me in this article is that there are hedge funds
which don't access _any_ SEC filings in any given month.

~~~
mi100hael
I'd be willing to bet they just aren't using EDGAR. There are other services
like Bloomberg or individual company IR sites that provide the same data.

~~~
MaysonL
So why do they have worse results?

------
coatmatter
And do those who do the most research seek the highest fees?

~~~
dsacco
Those who do the most (productive) research often don't seek any fees, because
most of them don't accept outside capital :)

------
kernelPan1c
I wonder how Rice got this data.

The more interesting story is that if you can get this data (MITM or some
other means), you could front run a fund by figuring out who they’re
researching.

------
chrisabrams
In other news, students who study the most for SATs will post the best scores.

~~~
jeremyjh
No, this is surprising because the only research they measured is accessing
SEC filings from the government’s website. Since this is the definition of
public information, in an efficient market there should be no comparative
advantage to having it because every manager should already be using it.

~~~
jihoon796
Agreed. In addition:

"As discussed in the introduction, public information may be profitable if
sophisticated investors like hedge funds are skilled information processors.
Alternatively, private information may be more valuable when used in
conjunction with public information." (pg. 19)

The paper goes on to show evidence suggesting that the predominant channel is
the latter complementary private information mechanism.

It does seem counterintuitive that publicly-available information does indeed
generate alpha, but the real valuable insight here is that hedge funds are
able to generate alpha from using public data synergistically with private
data.

~~~
dsacco
_> It does seem counterintuitive that publicly-available information does
indeed generate alpha, but the real valuable insight here is that hedge funds
are able to generate alpha from using public data synergistically with private
data._

Even more than that: the best funds can generate alpha by simply combining
different sources of public data without necessarily using any nonpublic data.

------
osrec
I don't think they can really draw this conclusion. There are a great number
of additional factors at play and accessing public sec records is a bit of a
red herring. Especially considering that the funds they have listed as
examples are primarily large high frequency algo funds (Renaissance and AQR)
and are even less likely to find much utility in intermittent public filings.
This may however be an indicator of diligence, but trying to link public
information to a big increase in performance is somewhat far fetched.

~~~
avvt4avaw
AQR are certainly not a high frequency trading firm, and Renaissance may do
some high frequency trading, but they are not _primarily_ a high frequency
trading firm. Where did you get that idea?

The paper explicitly addresses the point that large-scale systematic
collection of public records may be indicative of the _kind_ of fund that
outperforms, rather than an indication that the public records add alpha in
and of themselves - it's in the abstract

> The effect is not due to differences in fund type as the results hold
> within-fund.

I think you need a more convincing argument than just saying "There are a
great number of additional factors at play" and "Trying to link public
information to an increase in performance is far fetched".

~~~
osrec
Having worked with AQR, I would say they are more HF + coupled with some tend
following than anything else. What makes you say they are not?

~~~
yellowstuff
FWIW, Cliff Asness disagrees with you:

> we are not high-frequency traders

[https://www.aqr.com/Insights/Perspectives/High-Frequency-
Der...](https://www.aqr.com/Insights/Perspectives/High-Frequency-Derangement-
Syndrome)

~~~
osrec
I understand he does, but our definitions are different. Firstly, they are not
a buy-and-hold sort of fund. Their strategy is more momentum based, and in my
experience, to be good at that you need a deep understanding of HFT in current
market conditions. I'm not saying they're market makers, but I will say that
they employ some sub-minute strategies - to me, that is high frequency (not
super high frequency, but high frequency nonetheless).

Also, they seem to hire a fair few ex-HF guys in senior positions (e.g.
[https://nypost.com/2015/07/31/aqrs-head-of-trading-on-
paid-l...](https://nypost.com/2015/07/31/aqrs-head-of-trading-on-paid-leave-
amid-probe/))

