Greetings,
It looks like hedge funds will underperform the S&P 500 for the sixth consecutive year in 2014. In my opinion, these managers continue to struggle for two reasons. First, artificially low interest rates and non-existent volatility make alpha-generation nearly impossible for such large funds. And secondly, impatient investors who expect positive returns week-in and week-out make it impossible to hold positions for any extended period of time. As a result, HF managers pile into the same non-controversial trades and dial up the leverage to meet their benchmarks. It works great when those positions rise, but can get ugly when everyone rushes towards the exit.
Non-professionals need to take advantage of the fact that they don’t have a benchmark. Why leverage up when there’s no need? I’ve kept at least 40% of my portfolio in cash since launching in August, and have still managed to return 18%. Over that period, the S&P 500 is up only 6%, while the HFRX Global Hedge Fund Index is down 3%. I sleep well at night knowing that cash gives me flexibility to limit downside risks and take advantage of new opportunities when they arise.
Unfortunately for hedge fund managers, it doesn’t look like volatility will spike anytime soon. Last Friday, ECB President Mario Draghi gave an extremely dovish speech that opened the door for sovereign debt purchases in the future. Draghi continues to make it perfectly clear that he wants the Euro to decline in order to keep deflation at bay. So far he’s getting his wish. The Euro is trading at a two-year low against the US dollar, and has declined 5% this year on a trade-weighted basis.
As we approach Thanksgiving here in the US, I’d like to give thanks to central bankers around the world for continuing to up the stimulus ante. Asset prices are soaring everywhere. The S&P 500 is back at all-time highs. Christie’s held the biggest art auction in history this month, selling $853 million worth of contemporary and post-war art. These policies are unsustainable. Even if central bankers are successful in growing the economy, there will be major dislocations (i.e. money-making opportunities) in the process.
The stock market rallied just over 1% last week, but I actually made more money on the short-side. My Marketfy portfolio finished the week 4% higher, and I may start putting some cash to work soon. My investment pick for November was sent out to Newsletter subscribers yesterday. I’ve had a position in this name for a few weeks, and it’s already up 7%, but this is just the beginning. If you’d like to start receiving these picks, a subscription is $8/month. That’s so cheap that if you invested $1,000 in my portfolio from August, the profits alone would pay for 20 months’ worth of subscriptions. I’m excited to boost these returns once the market starts to whipsaw. I hope you’ll join me. Click here to subscribe.
Today’s letter will cover several topics, including:
With that, I give you this week's letter:
As always, if you have any questions or comments or just want to vent, please send me an email at mike@cup-handle.com.
Until next time, tread lightly out there,
Michael Lingenheld
Managing Editor – Cup & Handle Macro