Hedge Fund Fees

Bloomberg about the Austrian hedge fund Superfund and their fees:

"Superfund A has to produce at least a 6.75 percent annual return before investors see any gain, according to the prospectus filed with the SEC. Superfund B has to gain more than 8.63 percent."
(Bloomberg: Baha's Superfund Pitch Grabs Ranieri, Annoys Rivals (Update1))

Their funds haven't really seen any performance gains in the past four years, and the accumulated 300% performance they are advertising is from late 2000 to early 2003. Since 2003, Superfund funds are moving sideways - for investors. Superfund is still making 6-8% with the investor's money, as you can see above.

Superfund has been using a technical momentum trend following strategy for dozens of markets, highly leveraged. It can easily be replicated (from what I've been told by some of their former employees and business partners), but as thousands of investors are using very similar strategies nowadays, markets have become too efficient to offer reasonable margin. This is a problem with many of the market timing strategies that have been working for decades (e.g. the simple "buy when price > MA200, sell when below") - too many people are using them. So if you're using timing strategies, make sure it's not a well known one. And putting less than a couple of billion dollars to work will help executing it too.

The next time you hear about David Swensen allocating 20% of the Yale University’s Endowment Fund to hedge funds, keep in mind that he's probably not paying 8% annual fee.

Spanish Property Selloff

Last week we've seen a major selloff in Spanish property stocks, causing a loss of confidence in the future of the 10 year bull run European property stocks have seen. Over the longer term, this decline will not affect the wider European commercial property market - at least this is what fund managers are saying (what else should they say?):

"There is however no reason yet to believe that the effects will be this extreme, and for time being we welcome a necessary correction in an overheated market." (Patrick Sumner, Head of Property Equities, Henderson Global Investors)

If you're searching for an ETF covering the European Real Estate Market, you might want to take a look at the iShares FTSE/EPRA European Property Index Fund (IPRP:LN), registered in Ireland.

Emerging Middle East & Africa

In case you missed it, the first regional Middle East/Africa ETF was launched just a few weeks ago: SPDR S&P Emerging Middle East & Africa (GAF). One might want to call it 'SPDR S&P South Africa' instead, as it's heavily overweighted in South Africa (66%), with exposure to only a few other countries (16% Israel, 6% Egypt, 6% Morocco).

South Africa might be an interesting country over the next 1-2 years for several reasons: the FIFA World Cup 2010, and a large and active stock exchange that ranks 17th (I've read 15th somewhere else) in the world in terms of total market capitalization - but it's not the country you'd expect to be overweighted in if you're seeking exposure to the middle east. JPMorgan's Emerging Europe, Middle East and Africa Equity Fund basically just adds a lot of exposure to Russia, so this doesn't really help either (besides: noone seems to be interested in mutual funds these days, even if there's a growing number of ETFs with a high TER).

Thomas Lagoarde-Segot (University of Dublin) has published an IIIS disucssion paper covering the MENA (Middle East and North Africa) market last summer - here's an excerpt of the abstract:

"Our results suggest that in spite of intra-regional heterogeneity, the MENA region ranks favorably by comparison to Latin America and Eastern Europe. We can therefore expect greater international financial integration of the MENA region in the near future."

Currently there's no easy way to invest in the MENA market, including countries like Israel, Egypt, Turkey, Kazakhstan, Morocco, Jordan, United Arab Emirates, Qatar, Kuwait, Bahrain, Oman etc. But as soon as oil climbs back to the 70s, I bet someone will launch an ETF. And by 2010 we'll probably have a frontier ETF covering Kenya, Cameroon, Malawi and Angola.

Gold: Safe Haven or Hedge?

"This paper analyzes the role of gold in financial markets. More specifically, it studies the question whether gold is a hedge or a safe haven for stocks or bonds. Our empirical results show that gold is a hedge and a safe haven for stocks in all markets for the entire sample period. However, gold is generally not a hedge or a safe haven for bonds in any market.
Moreover, gold only functions as a hedge and a safe haven in the short-run. In the long-run, gold is no safe haven, that is, investors that hold gold more than 15 trading days after an extreme negative shock loose money. The results also show that there is a large difference as to whether investors hold gold or purchase gold after an extreme negative shock occurred. In addition, since the price of gold in the US increases when stock prices fall, gold has the potential to compensate investors for losses with stocks thereby positively influencing market sentiment and the resiliency of the financial system."

Quoted from an interesting study available at SSRN: Baur, Dirk and Lucey, Brian M., "Is Gold a Hedge Or a Safe Haven? An Analysis of Stocks, Bonds and Gold" (December 2006).

Which Correlation?

An anonymous reader noted that the correlation table I posted in 'Correlation in European Markets' a few days ago was the correlation of prices, and not the correlation of returns. This is correct. Now as having two different ways of calculating a correlation isn't confusing enough, let me add a third one: the Spearman Rank Correlation.

You're probably asking yourself which one is the 'best' - I had that question too. I wasn't able to find detailed comparisons, so the following is based on my personal analysis (so if you have some additional thoughts, please let me know):

The correlation of returns is a good indicator for reducing the short-term volatility of a portfolio. If one market zigs, the other one ideally zags. So if you're holding assets for several months or years and are viewing weekly correlations of returns, you can optimize (obviously based on historical data) the weekly volatility. This correlation doesn't tell you as much about the major trends as the other two correlations - one asset could have gone up, while the other one has gone down, and they still might have a high correlation of returns.

The correlation of prices is helpful when identifying 'sister stocks' that move in the same direction. It won't tell you that e.g. one of the two stocks (or ETFs) had a +200% performance and the other one only +20%. If this is what you'd want to know, you shoud take a look at 'cointegration' instead.

Finally, the Spearman rank correlation compares ranks instead of prices or returns - it tells you if two assets go up or down together over a longer term. This seems to be the best of the three correlations to optimize an asset allocation for the long term investors. If you're a daytrader or swing trader, ignore it.

I've updated the charts I posted recently and now have added the iShares S&P Euro 500 (IEV) and S&P 500 (^GSPC) to the table. Plus, you'll now find all three correlations calculated. Just pick the one you prefer.

Martin Armstrong and the February Crash

Martin Armstrong, who's been sitting in prison for one of the largest securities fraud cases in US history has published some interesting theories back in the 90s. There are many conspiracy theories which I don't want to focus on, but instead on the crash on feb 28, 2007.

Armstrong's business cycles are based on pi*1000 days, or 8.6 years, which he's further dividing into quarter-cycle intervals of 2.15 years. He also combines six of the 8.6 year waves to a 51.6 year wave, and finally there's a 309.6 yr super-wave. Why is all this relevant? Back in 1999 he predicted the 8.6 year wave from late 2002 to mid 2011, with the market peaking on february 27, 2007. Now that's quite a coincidence, right?


Most of his online publications have disappeared in the past (simply because noone ever renewed the domains and ISP contracts), and he hasn't been able to publish anything since his imprisonment. Michael Alexander has based some of his work on Armstrong's publications and you might want to google him - in case you'll want to read more than the two publications from Armstrong I'm uploading to a free file hosting service (without knowing how reliable it is): The Business Cycle and the Future and What Tomorrow Will Bring.

Update: I just realized Armstrong has been sentenced to 5 more years only a few days ago.

Correlation in European Markets

Have you ever asked yourself if investing in more than one european country reduces the volatility in your portfolio? The answer is easy: it doesn't. Here's a table with the weekly correlation of ten ETFs (all from iShares), based on the past three years - as you will notice, the average correlation is 98%:


So basically you have three choices: buy a single ETF that covers the entire western european market (ADRU, EKH, IEV, VGK,...), or focus on one or two countries that seem to have the best fundamental data. Or if you want to diversify currencies, then buy UK, Switzerland and one of the EUR countries - even if it won't matter much. Here's a performance chart:

One theoretical explanation for the high correlation that has come to my mind is that the majority of investors make a top down decision when investing in Europe (they simply buy a broad Europe fund/ETF), and the number of investors that actively trade certain stocks is negligible. Buying stocks in Europe simply isn't as easy (and common) as in the U.S. - without having any numbers, I guess less than one percent of all Europeans have ever purchased stocks.

In an upcoming post I'll try to compare european countries which might have less correlation - e.g. some eastern european countries like Turkey or Poland. If anyone has some specific ETF suggestions, please leave a comment in the next few days.