Hedge funds get a bad wrap. due to relative underperformance, high fees, and huge paydays for hedge fund managers. However, investing in a hedge fund helped save my retirement portfolio during the 2000 dotcom collapse.
One of the benefits of working at an investment bank is gaining access to a variety of investment opportunities that retail investors normally wouldn't have access to.
For example, if Goldman Sachs decided to create a special opportunity fund for institutions because they saw opportunity in the Argentinian debt market, employees would have the opportunity to invest alongside some of the world's largest money managers like Fidelity, Capital, and Franklin Templeton. Random investment opportunities came up all the time.
After two years as a financial analyst at GS in NYC, I knew my days were numbered as the NASDAQ dotcom bubble burst in March 2000. I remember optimistically telling my VP in May 2000 how I was still bullish on the markets and he sternly told me, “We're in a bear market. Stop kidding yourself.” Three years later, more than half of my analyst class was let go.
Investing In A Hedge Fund Saved Me
By June 2000, it was clear the NASDAQ was not getting better. I can't remember exactly how things played out, but I think management sent out an internal e-mail to all employees about how we should keep focusing on our clients – that now was the best time to give them a call or take them out because nobody else was.
In the employee memo, management also indicated they had added some new options to our 401k retirement plan, namely several hedge funds that looked to profit from the downturn.
Given some of our smartest and most profitable clients were hedge funds, I decided to do some research and invest half of my 401k into a technology hedge fund, Andor Capital Management, founded by Daniel Benton.
Andor was one of Goldman's largest clients, and they formed some type of partnership where they would let employees invest without needing the $1 million+ minimums. The flagship Andor technology fund ended up returning 35 percent in 2000, net of fees, and my 401k actually inched up in 2000 and 2001 as a result of the hedge fund investment instead of getting slaughtered.
I kept my Goldman Sachs 401k until 2003. This was despite moving to a new firm in June 2001, due to the investment selection. But after it felt like the markets were out of the woods, I consolidated my 401k balance at my new firm to keep things streamlined. Besides, I could no longer contribute to my GS 401k hedge fund as an ex-employee.
The Allure Of Investing In Hedge Funds
After my positive experience with Andor Capital Management, I never had the opportunity to invest in another hedge fund for years.
I wasn't an accredited investor, which mean I didn't have at least a one million dollar net worth or earned at least $250,000 a year. Nor did I have close friends who ran their own successful hedge funds who could invite me in at a lower minimum.
My lack of funds and connections were unfortunate because I could have preserved a lot of capital during the 2008-2010 downturn, just like I did in 2000-2003. Instead, I lost about 35% of my net worth within a year in 2009, which led me to start this site as a way to deal with the pain.
When the housing market crashed in 2008-2010, John Paulson made his hedge fund $3-4 billion. He was long CDS (Credit Default Swaps) insurance that rose in value as CDO (Collateralized Debt Obligations) mortgages fell with the housing market.
John became a billionaire overnight, and is known for making one of the best trades in one of the most difficult environments ever. He then proceeded to lose lots of money going long gold, but he's still a billionaire. There are opportunities to make money in any environment, especially if you run a hedge fund that can go long or short securities.
My Desire To Hedge Downside Risk
As someone who has spent 16 years after college building my net worth to the point of achieving financial freedom, the last thing I want to do is lose any significant amount of money.
If I lose 50% of my money, it takes a 100% return just to get back to even. As a result, I've been consistently investing in structured notes since I left Corporate America in 2012.
They provide downside protection in return for giving up some of the upside, e.g. no yield, or a 95% upside participation rate instead of 100% for 20% downside protection over five years.
If a hedge fund properly hedges, investors should outperform during a downturn.
Why Invest In A Hedge Fund
Here are some of the main reasons why you may want to invest in a hedge fund. Yes, the fees are high. However, a hedge fund could save you money during the downturn and make you money during an upturn. Further, you aren't allocating the majority of your capital to a hedge fund either.
1) Capital preservation during volatile or bear markets.
Money is meant to serve its owner, not the other way around. I never want to lose sleep again when the markets are taking a dive. I want my fund manager to lose sleep because he is up every night thinking about the best ways to manage risk.
After you build a large enough nut, the goal is to grow it in a prudent way where it can last for as long as possible. I understand the importance of beating inflation. I personally shoot for a 3X rate of return on the 10-year yield in a risk-adjusted manner.
2) The ability to still make a positive return during bad times.
So many people think they are investment geniuses in a bull market. I've invested through three downturns, and I can promise you that difficult times will come again. Sure, you can buy and hold forever, and probably turn out OK. But there will be a point where you'll want to utilize your capital for life.
Hedge fund managers are paid based on the expectation of making money during good or bad times. Losing money, but outperforming an index is not good enough over the long term.
3) Diversification.
Hedge funds and other alternative investments aren't a 100% replacement for your plain vanilla index and ETF funds. I am a strong believer in asset allocation and having a core of 60-90% of your investments in index funds. They are low cost and are the easiest way to provide the exposure you want to equities, which have traditionally increased by 6-10% a year.
For the remaining 10-40%, I'm seeking alpha through growth stocks. Or I'm looking to hedge based on the two points above. The issue was never having access at levels I could afford, until now.
Take a look at the chart below of how hedge funds have performed during historical downturns.
Investing In A Hedge Fund Is Becoming Mainstream
Very few accredited investors – individuals who make $200,000 a year or more, or have a net worth excluding their primary residence of $1 million or more – have between $500,000 and $1,000,000 to invest in alternative investments such as hedge funds and private equity funds. Investment amounts of $10,000 – $100,000 are much more common.
The only reason why I was able to invest in a venture debt fund last year for $150,000 is because my good business school friend of nine years is one of the managing partners. Otherwise, I would need at least $300,000 – $500,000.
There are new fintech companies using the crowdsourcing model to help democratize access into alternative investments nowadays. With the passage of Title III of the JOBS Act, all Americans will be able to invest in private companies starting in January 2016, not just accredited investors. The limit is $5,000 for income up to $100K and $10,000 for income between $100K – $200K.
Just know that hedge fund managers make a lot of money. Here's how hedge funds make so much money and what the hedge fund pay is. The more hedge fund managers get paid, the less investors in the fund gets paid.
The Natural Of Hedge Funds
Hedge funds tend to underperform during a bull market because hedge funds hedge – they protect their downside by shorting a percentage of their portfolio.
Sure, some hedge funds are closet index funds that may take on massive leverage to try and outperform the market.
But if a hedge fund is run properly, they will have strict risk-metrics in place to ensure that capital is protected during down markets. The hedge funds that gain a bad reputation are those who take on too much leverage and blow themselves up like Long Term Capital Management did in 2000.
Anybody who has been around long enough knows that the good times don't last forever. We're in the fifth year of a recovery and the easy money has already been made in equities and real estate. I seriously recommended diversifying your net worth if it consists of mostly equities and real estate.
From 1990-2014, hedge funds (as measured by the HFRI Composite Index) have returned ~10.19% net of fees annualized returns compared to ~9.19% for the S&P 500 with half the volatility of 6.81%. $1 invested in the S&P 500 in 1990 would be $8 today. Meanwhile, $1 invested in hedge funds in 1990 would be $12 today. You can see the power of just 1% over the course of 24 years.
The most promising portion of my net worth is my Alternative Investment category filled with private equity and a venture debt fund. My goal is to build a principal protection allocation into hedge funds once more in order to smooth out my investment returns.
Hedge Fund Performance Versus The S&P 500 In 2021
Below is a chart highlight how some of the top hedge funds performed in 2021 versus the S&P 500, which was up 28%. Only three of these hedge funds outperformed the S&P 500. But I can assure you that ALL the hedge fund managers made a lot of my for themselves.
The founder of Melvin Capital, -41.5%, bought himself a $50 million fat pad in Miami in 2021. It's great to be a hedge fund manager!
Top Hedge Funds In 2024
Achieve Financial Freedom Through Real Estate
A great way to hedge is through real estate. It is a tangible asset that is less volatile, provides utility, and generates income. By the time I was 30, I had bought two properties in San Francisco and one property in Lake Tahoe. These properties now generate a significant amount of mostly passive income.
In 2016, I started diversifying into heartland real estate to take advantage of lower valuations and higher cap rates. I did so by investing $810,000 with real estate crowdfunding platforms. With interest rates down, the value of cash flow is up. Further, the pandemic has made working from home more common.
Take a look at my two favorite real estate crowdfunding platforms. Both are free to sign up and explore.
Fundrise: A way for accredited and non-accredited investors to diversify into real estate through private funds. Fundrise has been around since 2012 and now manage over $3.5 billion for over 500,000 investors. For most people, investing in a diversified fund is the way to go.
CrowdStreet: A way for accredited investors to invest in individual real estate opportunities mostly in 18-hour cities. 18-hour cities are secondary cities with lower valuations, higher rental yields, and potentially higher growth due to job growth and demographic trends. If you have a lot more capital, you can build you own diversified real estate portfolio.
Both platforms are long time, Financial samurai sponsors, and Financial samurai is a six-figure investor in Fundrise.
Invest In Private Growth Companies
In addition to investing in a hedge fund, consider investing in private growth companies through a venture capital fund. Companies are staying private for longer, as a result, more gains are accruing to private company investors. Finding the next Google or Apple before going public can be a life-changing investment.
One of the most interesting funds I'm allocating new capital toward is the Fundrise venture product. Fundrise invests in:
- Artificial Intelligence & Machine Learning
- Modern Data Infrastructure
- Development Operations (DevOps)
- Financial Technology (FinTech)
- Real Estate & Property Technology (PropTech)
Roughly 65% of the Innovation Fund is invested in artificial intelligence, which I'm extremely bullish about. In 20 years, I don't want my kids wondering why I didn't invest in AI or work in AI!
The investment minimum is also only $10. Most venture capital funds have a $250,000+ minimum. In addition, you can see what Fundrise is holding before deciding to invest and how much. Traditional venture capital funds require capital commitment first and then hope the general partners will find great investments.
About the Author:
Sam began investing his own money ever since he opened an online brokerage account online in 1995. Sam loved investing so much that he decided to make a career out of investing by spending the next 13 years after college working at Goldman Sachs and Credit Suisse Group. During this time, Sam received his MBA from UC Berkeley with a focus on finance and real estate.
In 2012, Sam was able to retire at the age of 34 largely due to his investments that now generate roughly $250,000 a year in passive income. He is aggressively investing in real estate crowdfunding to arbitrage low valuations and take advantage of positive demographic trends away from expensive coastal cities. Investing in a hedge fund can help you outperform in a down market. But we're in a bull market for the foreseeable future.
hey there,
excellent article on hedge funds. Three questions:
1. your opinion on insider monkey and their premium services including small cap growth strategy fund?
2. is there a good hedge fund that will accept one million dollars of accredited investor money that you recommend. also if you could be specific about which fund to invest in
3. what are the tax consequences of the sliced investing. I mean if i give them non-retirement money and they do all these trades, who is responsible for the short term capital gains?
shaun
[…] majority of Americans. But with firms like Sliced Investing drastically lowering the minimums to invest in hedge funds, I see alternative investing increasing as a percentage of total […]
I heard somewhere that a top economist studied the hedge funds papers that you need to sign, in many cases I think over 50 pages in a language that even economist have trouble with.. That there are at least a total of 17 fees not just 1% . He came to the conclusion that the average fee is more than 3% for most hedge funds. So, if the hedge fund has a run of 9% return then with 3 plus on fees and 3% on inflation you really are making less than 3% total return.. Which would take over 2 decades to double your money.
That is why buffet even say start investing early and you will see a difference. And no hedge fund can promise anything, so why not invest yourself… And get that 3 to 4% that they make in profit in your pockets…
Don’t think that’s the case with hedge fund. Maybe private equity funds.
The results in the chart are after fees.
How did your investment portfolio do during the downturn, and what were you investing in?
Like the other person mentioned i am not an investor yet. I am growing my business so return are much bigger than the stock market, still young so i wont invest yet but love to read and learn here and there, its why we are here!
I think what i mention above. Is from tony robbin s book money masters..
I say it as something to think about not As a fact.
I just want to say that I really appreciate posts like this, Sam! I probably wouldn’t find out about this kind of thing without your blog, which is why I am such an avid reader! It’s funny that you say that you become more risk averse the more money you have. Now that I feel comfortable with our net worth, I am eager to try more risky investments. I’m sick of just indexing. My husband and I are both under 35 so I feel like we have a lot of years to recover and earn more money.
No problem Mina! I have a lot of fun sharing stories and researching new and interesting topics not normally discussed. It’s been great living in San Francisco where I have access to speak to a lot of innovative companies.
That is funny you’ve become more risk loving. Never forget 2008-2010! It is good that you feel you have a lot of year to earn money. I was seriously beginning to burn out by age 34, and b/c I chopped off my income in 2012, I had to be more conservative.
I’m often telling myself “I can’t believe it. Snap out of it.” with all the luck I feel. There seems to be a lot of opportunity, so I’m trying to make the most out of it before the sun goes down. It’s tiring to work hard, write, respond to comments, and put in the due diligence, but it feels very rewarding as well.
Don’t go too crazy now with your newfound wealth! Keep the majority of your investing plain vanilla and boring! Nobody knows their true risk tolerance until they really start losing money.
Best
Hi Sam:
I am a fan of passive investing. Low fees. Global diversification. And Keeping a fair amount in directly held bonds for the fixed income allocation (matched to known liabilities if possible too).
Hedge funds? I don’t know– they have a 2& 20 fee structure right? The manager takes 2% (whether he is successful or not) and 20% of any profits. That is STEEP.
I think I will stick with ETF’s and Index funds with barely there fees. I just don’t have the stomach, patience or faith in active management.
Your thoughts?
J,
That is correct. The fees are between 1-2% of assets under management, and 10-20% of profits. Not cheap, but the returns in the chart in the post are NET of fees. The structured notes I buy have fees and they tell me what the structure is net of fees as well.
I think you’ve got to invest in what you are comfortable with. And 60-80% of people’s portfoios should be in passive, ETF, index investing.
My position is that I have an intense need to protect principal. I worked too damn hard over the past 16 years to see another 20-35% correction in my net worth. I’m willing to pay the 2/20 if they can actually make money in a downturn or outperform by more than 2/20 in a downturn or upturn. Heck, I would have paid a crap load if I didn’t have to go through what I did in 2008-2010.
Everything is good now in a bull market. Just make sure in a bear market, or volatile market, you either ain’t rich, or you don’t have a lot of exposure to equities, or you’re hedged.
Hi Sam
To build on Maverick’s comment – I there may be a survivor bias in the HFRI data.
Do you know when they started recording? If they took all of the funds that were alive in, say 2000, and then used those firms’ data back to 1990, they would have winnowed out all of the funds that imploded in the 1990’s. Or perhaps it’s worse than that – perhaps they only keep in survivors across the entire time measured (it’s hard to tell from a quick scan of their described methodology).
Also, HFRI is an equal weighted index. That is neither good nor bad, but it is important to know when comparing to the market-cap weighted S&P 500.
Finally, the low (relative) amount of money that was in hedge funds in 1990 also presents an important bit of history. It would have been easier to make money as a hedge fund in the 1990’s than it is today because there is so much capital and competition now.
And I guess the final thing to note is that, unlike the S&P 500 index funds, you can’t actually invest in HFRI :-) It’d be small solace to see HFRI continue to do well if your particular fund(s) got crushed…
Thanks for another great article – informative and conversation-starting!
This is a great article that nailed all of the “but” and “what about” questions firing off in my my mind. When it comes to a fund of funds, it’s all about picking the funds. It’s neat to see that their cost basis is so low given you’re already out 2/20. Also, you’re right that this company is well positioned to take off in VC/PE and possibly secondary markets. This is definitely something I want to look into and it will be interesting to see how the crowdfunding rule changes affect it’s business model (likely widening it).
One concern, liquidity. But, I guess that’s why lower buy-ins make this a palatable portfolio options.
Liquidity can be a concern for some. I think Sliced has a 3 month to 1 year lockup. Let me double check with them.
The one thing that has SAVED me many times is having a lockup. For example, real estate has gone through hell and back, and because there is this big friction (ridiculous 5% selling commission STILL) I have refused to sell, and I will NEVER sell until that fee goes down to 2% or less.
The other lockup I have is a 7 year lockup with my Japanese real estate private equity purchased in 2009-2010. That fund has done super well (24% IRR), and I WISH it was locked up forever. All my structured notes are 1 year to 5 year lockups b/c I believe strongly that if you hold long enough, the volatility will smooth out, and the chances of everything being OK will increase.
This is also the reason why I built a 30 stock motif with multiple sectors. I only want to balance it twice a year and it is built to withstand the volatility with the golden hope that it makes more on the way up, and loses less on the way down. My goal is to make my money work for me so I can work on my business, travel, and do other fun things.
Understand the lockup.. Sometimes it’s most prudent to do nothing. And, that’s often hardest thing to do. Believe me, and I hate to expse my bozoness here. However, my brothers GF works for GS and, as I understand it, while they have some great investment options they also do not have the availability of investing anywhere else.
Is there a “Sliced” for Venture Capital? I.e., for those who are accredited investors and to invest in early stage nonpublic companies but don’t have $500,000+ in liquidity.
I think there is a firm called Top Tier Capital in San Francisco as well, but I’m not sure. Perhaps Sliced will be the Sliced of VC in the future as well if the platform can be properly developed.
Since you are looking at ways to invest in hedge funds, I have a suggestion for you. There are several ETFs that seek to match the returns of the Hedge Fund Long/Short Index. One that I have been looking at has the ticker ALFA and is an ETF with a 0.95% expense ratio. The benefit is that there is no minimum to invest and it is very simple to buy/sell. The downside is that it should be the average of returns and doesn’t let you pick just a high performing hedge fund (although it shouldn’t matter much given your chart of total hedge fund performance). I am still doing research though because it was founded after the market crash and seems to be fairly highly correlated with the S&P 500 since. Let me know what you think.
Thanks for the heads up. After meeting with JPM Chase Private Client yesterday to do more research on hedge funds and asset allocation, they highlighted the “liquid alternatives” which is exactly what you are talking about. Their benefit is liquidity as they are recommending 10-13% in alternative investing, and they can’t lock down their clients portfolio as that’s not part of the agreement.
Here are some names I wrote down:
ARBNX
GTEYX
GARIX
PADZX
HTRIX
EIGMX
ABBYX
EBSIX
But JP Mortgage charges 1.6% for the first $250K, 1.35% for $500K-$1 mil, and 1% for $1 million+, on top of the fees of the respective funds. And this is only access to the “liquid alternatives” which you or I can buy right now.
Hi dchedge, I’m one of the founder’s of Sliced. Thanks for your response! One other thing to consider is that liquid alternatives (also referred to as ’40 Act Mutual Funds) are not able to take advantage of many investment opportunities because of their structure and because of regulatory limits on shorting and the use of derivatives. Since they need to maintain daily liquidity, their investment universe is inherently limited.
Great post Sam! Not many people fully understand the hedge fund industry simply because they haven’t had any exposure to it. That’s partially due to the qualifications and also due to the limited media exposure. People have a tendency to bash or doubt things they don’t know or understand. So I think it’s good you are spreading awareness.
Are there risks? Of course there are risks, just like any other investment decision. I do like funds of funds vs investing into one specific fund. Slice has an attractive fee structure too.
Among hedge funds that have been started in the past 15 years, only about 5% have survived. That means that the performance of “the average hedge fund” looks much better than most hedge fund investors experienced.
Interesting stat Maverick. I’ve never heard it before. Do you have a source that says only 5% have survived? Could be right as many business fail after 5 years, and how many business do we know last for 15 years?
But maybe that is another value proposition for investing in a fund of funds, to stay diversified and hedged from that element. When a hedge fund closes, the fund basically gives the money back to their investors. It’s not like investors are left with nothing, unless the fund is highly leveraged and goes down 100%, or is a fraud.
Dan McCrum over at the Financial Times’ Alphaville blog uses the HFRI figures to estimate half of all individual hedge funds perished in the last five years, from which he reasons the problem of fund selection for pension managers becomes “insurmountable”. Check out his blog.
Sam,
Read the article and the website for Sliced Investing. Been investing for the past 10 years ( in the Indian markets) and have a diversified portfolio ( 40% – RE , 40% – Equities , 20% – Bonds and Cash).I meet the upper networth range for someone in your early thirties age chart range. I have faced 5 major crashes of 30% plus , have dependants and a salaried job , never stopped investing during market crashes , made umpteen mistakes , keep continually learning and I must say I disagree with the premise put forward by Sliced Investing.
In their example , they take the case of a mid-50s couple who were saving and investing diligently all throughout , yet saw their retirement portfolio hit by 40% and recover only now in 2015 , where we are 6 years into one of the strongest bull markets in 2015.This raises several questions
1) I didn’t see Joe or his wife lose their jobs in the example. That means , they still would have been investing $20,000-25,000 even in 2008 and 2009 , which should have helped their portfolios bounce back strongly
2)If he knew he was going to retire in 5 years , why would their portfolio be heavy in stocks and mutual funds ? Why wasn’t it dialed back to more conservative investments?
3)Why did they sell near the market crash bottom ? If he has been investing for 30 plus years , surely he is experienced/knowledgeable to know not to sell in a market crash and hold tight
You called out a commenter above by saying this was not market timing. I do not know the case for investing in hedge funds ( and I’m not interested either ) , but the premise on which Sliced Investing is basing their case for hedge fund investing is essentially flawed. If you consult with them , please tell them to give better examples if they want to attract informed investors.
I am not convinced for the case of investing in hedge funds for several different reasons , but essentially , you wouldn’t be able to dollar cost average in a hedge fund unlike a simple index fund , and hedge funds have had a far bigger history of making losing investments than winning.
You mention John Paulson’s investing bet shorting CDOs.Please track John Paulson’s later investing calls , especially the one where he made huge losses investing in gold.
I really look forward to your reply on this one.
Hi Nishanth,
Thanks for your comment and sharing your background. It helps a lot in understanding where your perspective.
With regards to the story you read about how hedge funds can help minimize downside risk, who knows all the individual financial and personal variables that go into what one does with their money. It’s hard to judge if one isn’t in someone else’s shoes. That’s just one story of how a hedge fund could have helped soften their retirement blow, which led me to think back upon my story on what happened in 2000-2003 with Andor Capital Management.
If you speak to every single asset management advisor out there, they have a percentage of investments dedicated to alternative investing e.g. hedge funds, liquid alternatives, private equity etc. The range is 10%-30% for the post part. Most people don’t know this b/c these JP Morgan Private Bankers address the $5 million assets and up crowd.
There is a place for everything, and one of the ideas for Silicon Valley startups is to bring access to more people through the internet and technology. I feel VERY closely to this community having started Financial Samurai from nothing, and being able to give anybody who wants to search or visit directly access to a community with different perspectives on finances. It’s about democratizing things that were once available only to the very wealth. It started with things like a TV, a laptop, and a mobile phone. Now it’s Uber – “Everyone’s personal driver” and so forth.
John Paulson lost big going long gold for sure. But at the time, he made the greatest modern day trade by going short CDOs, and he’s still worth billions.
You may be an astute investor after 10 years who only buys bottoms and sells tops, but I can assure you that many people aren’t as astute, and can benefit from professional money management, including myself. Just look at the clients of all the private wealth managers, they are all super wealthy clients. Every single person I know over 40 who works in finance has a percentage of their investments allocated to hedge funds as well for capital preservation and asset allocation purposes. Again, alternative investing is a minority percentage of one’s total investment asset allocation.
This is the great thing about personal finance. There are a lot of different options and people are free to do whatever they want. There are no guarantees when making an investment, except for money markets and CDs under $250K. Everybody needs to do their due diligence, ask questions, and get smart before deploying capital. My way is through studying all the terminology, recounting my past, researching performance, and meeting companies and people face to face if I can.
Sam ,
This statement was unwarranted and a needless assumption : ” You may be an astute investor after 10 years who only buys bottoms and sells tops” . I have never been able to buy at bottoms because I thought it was the bottom , but was only able to do so as part of a regular, systematic investing plan. As I have never sold any of my investments , I do not know whether I would have managed to get the top also.
I agree with your statement that many people need professional money management including yourself. All I took issue with , was the wrong example set forth in Sliced Investing’s story. If “Joe” had been investing for 30 plus years , either he would have gained enough knowledge to invest on his own or he would have realised from experience that he needed professional money management , in which the outlined scenario would never have happened , unless the advisor was incompetent or Bernie Madoff.
As you said , there are several alternate opportunities for the $5 million plus crowd. But thats not the crowd (mostly) that you write for , is it ? I appreciate you sharing the information about democratization of hedge fund investing. However unlike your networth posts or increasing income posts or working your ass off posts , this one would possibly lead at least some of your readers to think about investing in alternatives that might be unsuitable for them. You are an influencer ( in a positive way) and people like me take what you write very seriously and try to copy some aspects in their own lives.
Nishanth,
I commend you for buying at the bottom. Personally, I was shell-shocked to see 7 figures worth of net worth disappear like black magic within 12 moths during the crisis. The feeling of loss and FEAR made me finally get off my ass and start this site. I’ve interacted with thousands of people about investing since this time, and many people felt the same way, a majority actually, especially those who had more money to lose.
We can say Joe wasn’t wise for selling some equity at the bottom. Or we can just realize that’s human nature, and something plenty of non-investment professionals and professionals do. All I can say is that as you build more wealth and age, the FEAR of losing it all becomes magnified b/c you realize your mortality, and also the inability to have the same amount of energy to start over.
There are seldom ever any slam dunk investments, although investing in Sequoia Capital might come close, but few can get in. Just because one way works for one, doesn’t mean it will work for another. Very few personal finance blogs or blogs in general will talk about hedge funds b/c only a very few people can invest. But given my time as a young lad at GS with access, and my time spent this Christmas researching AngelList, I’ve discovered Sliced, and the business model is intriguing b/c it hit one of my pain points.
If I knew in 2007 what I know now, I probably would have shifted 100% of my equity investments into a Long/Short hedge fund. I also would have sold all my real estate in 2007, never bought a vacation property, and bought back into real estate and equities in 2010-2011. But I didn’t, b/c I didn’t have that foresight. Some did, and they made a killing.
No one investment fits all. I don’t force my investment beliefs on others b/c there simply are no sure things. There are so many variables such as risk-tolerance, earnings power, cash flow, net worth, health, desire and ability to work, outlook on life that plays a factor.
Sam,
Fair enough. Although it was all my entire life savings in the market at that time , I didnt hestitate in the face of severe losses because of 1) my age 2) my learnings about investing till that time 3) I was single and no one was dependent on me.
When I am Joe’s age , with more dependants and a much more larger portfolio (hopefully) , I do not know whether I would do exactly the same thing as Joe has done. I would hope not.
Interesting not sure how plugged in with the street you are these days but you probably are. That said on the topic of hedge funds…
The largest growing firms these days are ***beta neutral funds***, ie: bench marked to *not* beat the market becuase investors are still spooked. Interesting huh? They want a portfolio that is net neutral to the market.
Not 100% sure if this means the market is topped or that people are still risk averse. IE: is the money flowing in this direction because they want to protect or because they think the run up is done up.
In terms of using a hedge fund to your advantage perhaps you can come up with your own basket of etfs to make the same predictions.
In your example, instead of just investing with Andor you could have bought up high beta tech stocks. since your opinion was more sector related.
All that aside the fund that I am referring to was up 20% last year so you already know which one that is. And they are now aggressivley building out the market neutral side after outsized performance last year.
Ah, but thank goodness I didn’t buy up beaten up tech stocks in 2000, b/c they kept on going down. Andor was net short tech and crushed it +35%. I got lucky investing with them, but it seems like I’ve been getting some decent lucky breaks all my life except for in 2008-2010!
Market neutral seems prudent after a 5 year run up in the stock market. I’d be market neutral too. If I can return 5-8% this year and next year, I’m happy. I never want to lose more than 10% in my overall portfolio in any given year.
Interesting. Thanks for the tip on Sliced.
I’m not quite accredited, but as you pointed out, once I hit that hurdle, I won’t have enough liquid cash to make that large of a single investment.
You like hedge funds. What do you think about Second Market?
Hi Jack, I don’t know much about Second Market. What are your thoughts?
If you become an accredited investor, I think $20,000 – $25,000 in a fund is pretty reasonable. Heck, I built my motif with $10,000 just the other week to take advantage, and I’m running low on cash due to all these upcoming taxes, and home remodeling I’m doing.
Very interesting. I wish I could invest in Sliced itself as much as the hedge fund product it offers. Which strategy do you see as ideal for the current environment? (Long / Short Equity, Global Macro, Event Driven, Quantitative, Distressed Credit)
That’s a good question Carter. I’m biased towards Event Driven and Quant. But I like the “plain vanilla” L/S equity funds in this environment. I’m going to do some more research about each style and its appropriateness.
For those curious, here are the various types of hedge fund styles and their descriptions I’ve taken from SI’s Resource page.:
Long / Short Equity– long / short equity funds are the most prevalent hedge fund strategy in the industry. Long / short equity funds are generally what people think of when they hear the term “hedge fund” – these managers will generally invest in the stock of companies that they believe will perform well (i.e. “go long”) and will bet against other companies that they believe will underperform (i.e. “go short”).
Event Driven– event driven funds focus on companies that that have specific corporate events or developments. Typical events include mergers and acquisitions, restructurings, shareholder buybacks, activist campaigns, and financial distress. Event driven funds generally invest across both equity (i.e. stocks) and credit (i.e. loans). These investments are generally chosen because of their company-specific characteristics rather than broad market sentiment.
Macro– macro funds invest based on future changes in global economic policy and based on broad economic events globally. Macro funds can be discretionary (i.e. based on human judgments) or systematic (i.e. based on quantitative models) and often invest across many asset classes to achieve their return objectives. Macro funds tend to be the least correlated to other hedge fund strategies.
Relative Value– relative value funds capitalize on value discrepancies between different types of securities in order to generate returns. Discrepancies can be both market specific and company specific. Relative value managers often invest in debt and credit instruments to achieve their return objectives. Certain hedge funds that are “market neutral” can also be classified as relative value.
Diversified / Multi-Strategy– diversified funds, also known as multi-strategy funds, can utilize any or all of the other hedge fund strategies to achieve their objectives.
My initial thought is it’s a great idea for the middle class to have access to investment options that are not available in other circumstances, until I read a little more.
One of my questions that seems very vague from the website and from your write-up is what Hedge Funds and/or Investments are available?
Also similar to Ben’s question, it seems you need to be an accredited investor to be a part of Sliced, why wouldn’t this investor participate in other investments on his own, I’m guessing that someone with a net worth of 1mm/200K in income has numerous investment options available and isn’t fighting over themselves to have hedge fund access , why use Sliced?
Good questions.
1) Regulation states you can’t advertise specific hedge fund products. I checked online and with the founders. But, if you want to check out their fund of funds, you can sign up and see for yourself.
2) I need to do a better job explaining the situation most accredited investors face when wanting to invest. So let me try again to simplify:
$200,000 a year in gross income is roughly $140,000 in net income after taxes, excluding 401k contribution gains. After spending money on food, rent/mortgage, etc, you’re left with $0 – $100,000, depending on your spending habits.
The minimum to get into a typical hedge fund is often $500,000 – $1 million. How long will the accredited investor above have to save to get to $500K – $1 million? A long time. Now ask yourself whether once you’ve saved $500,000 – $1 million, you’d want to invest 100% of that into one fund? The answer is not likely.
Alternative investing usually makes up 10-30% of an investment portfolio (see college endowment funds like Yale, who invested in Farallon Capital hedge fund here in SF way back when and started the trend). In other words, you would need about $2.5 – $10 million in investable assets to invest $500K – $1 million, based on the 10-30% allocation.
One of the great misconceptions about accredited investors is that they are super rich, like the 0.01%. The vast majority of accredited investors are W2 income earners, who are over 40 years old, with all the normal expenses everybody else has.
Having enough money is one thing, having access is another thing. I’d love to have invested in Uber or AirBnB prior fund raising rounds since 2012, but I couldn’t, b/c I don’t have access.
I hope this makes more sense.
Also, check out this post: The Top One Percent Income Earners By State, to see the difference between the top 1%, and top 0.01%. A 200K income is more like top 8-10%.
Sam, just wanted to zero in on your comment here about it being two completely different things 1) having money to invest and being accredited like yourself and 2) having access to these deals. I will officially hit that Accredited Investor title after I do my 2014 taxes and have always wondered myself where to actually find these deals now that I will become an AI. I know you mentioned in a previous post a week or so ago that it is about being smart enough to spot opportunities, be connected and deploy your capital but the ACCESS to these deals still boggles me a bit, where do I find them now???
Very interesting. This is the first I have heard of hedge funds on the blogs I read.
Now, I want to know much more. Too, I want to understand how YOU know that these
founders are honorable men? Since this is all so new to me, all that comes to mind is shady
investment representatives.
Sometimes you just have to sit down with them, look them in the eye, listen to their story, and make a judgement. I’m all about being as thorough as possible with my due diligence. They’ve gone through Y Combinator, a seed accelerator organization that accepts ~3% of applicants, and they’ve got funding from Khosla Ventures, a premier VC in the Valley. Here’s their FAQ too. Let me know if there are any specific questions you’d like me to ask them for my interview.
Did you experience something bad, investment related, or otherwise in your life to not find men honorable by default? I love hearing the personal stories from readers to help me understand why folks think the way they do.
It’s good to be skeptical of everything. I know I am when it comes to where I allocate my hard-earned money.
Thx
Yes. We had a restaurant years past. Our accountant was responsible for payroll and, quarterly taxes. We trusted that she was actually paying our taxes, she was not.
Fortunately, God revealed the truth to me. She had assets that she sold in order to pay those back taxes. It all worked out for our good in the end. But, it was a painful experience. I loved and, trusted this woman.
Got it. That sucks Joy. I can see how such an experience would make you very skeptical about everything money related.
With regards to investing, it’s important to keep one’s eyes wide open and do as much due diligence as possible. It took me TWO YEARS of meeting people and researching P2P lending before I invested my first dollar. And it took me almost two years of returns to then write about my P2P lending performance.
I’ve lost money before buying too much of one stock (my own stupidity), and buying a vacation property (also my own stupidity). It remains to be seen whether my private equity investments in consumer staples and financial technology will pay off. But I will continue to learn and invest.
I do encourage readers to read this: Recommend Net Worth Allocation By Age And Work Experience
Accredited investors, whether individuals or institutions, spend a lot of time doing due diligence on hedge fund managers prior to investing. This continues even after investing on an annual or even quarterly basis. The ddqs (due diligence questionnaires) can get very detailed. There’s a lot more transparency in the hedge fund industry now which benefits investors and hedge fund administrators as well.
Hey Joy — co-founder of Sliced here. Understand your concerns and they are valid indeed! One of the reasons my co-founder Akhil and I started Sliced was because we were dissatisfied with the way the current investment industry works — one aspect being the ‘used car salesman’ feel of some investment reps. We wanted to structurally change the way that sophisticated financial products are accessed by using technology to lower fees, reduce minimums and add transparency. I’d love to personally answer any questions you may have, feel free to email me at mike@slicedinvesting.com.
I can’t say I agree with this strategy for everyone. This is timing the market, and you just so happened to guess correctly with 50% of your 401k. Jack Bogle, founder of Vanguard, has a famous saying that in his 60+ year investing career not only has he never met anyone who can time the market, he’s never met anyone who has met anyone who can time the market.
Also, Warren Buffett has a publicized bet going on right now with Ted Seides of Protege Partners where Buffett’s pick the S&P 500 is trouncing Seides hedge fund picks.
Once you factor in management fees and tax implications of investing in hedge funds, a return that appears to outpace the broader market during a point in time will actually be a laggard (I understand that taxes would not effect an investment held in a pre-tax 401k).
I also understand that there are some investors who have consistently proven they can beat the market (Ray Dalio comes to mind), but these people are far and few in between. And these funds are almost impossible to gain access to.
I’ll stick to passive index investing for my 401k, and not try to time the market. But since timing the market has been fruitful for you in the past, I can understand why you would advocate it.
The chart is from 1990-2014. That’s not timing the market. Investing in alternatives is an long-term asset allocation strategy to try and make money or smooth out returns. Feel free to sit down with a private client banker at any major branch and ask them for their asset allocation sheets. I sat down with JP Morgan Chase Private Client yesterday, and they have a 10-13% Alternatives asset allocation weighting for example.
The reason why it may seem like I’m timing the market is because there was a long time (10 years) I couldn’t gain access to hedge funds because I didn’t have the $1 million minimums so many require. Now Silicon Valley has used the power of social pooling and the internet to make everything from cars, to crowd funding inventions, to investing in alternatives a reality.
How long have you owned Berkshire Hathaway stock and what is your current age and years of investing? Knowing your background helps me better understand how to communicate.
I’m a big fan of Warren Buffet too, and strongly believe in his methodology. Alternative investing is not a 100% replacement of a core strategy. I wonder if you are confusing this?
I apologize as I was not specific in that I was referring to your personal experience in which you invested half of your 401k (not 10-13% although I do understand at the time you had other assets, so maybe this was 10-13% of your total assets overall) in a specific fund. I just didn’t want others thinking it would be a great idea to throw half of their 401k into a hedge fund investment option. I called it timing because you invested in 2000 when it was clear to you “the NASDAQ was not getting better.”
Now for your comment about allocating 10-13% in alternatives, I think this can be a great addition to someone’s portfolio. But I just wanted to make it aware that management fees and tax implications can cut into “on paper” returns of hedge fund investments. Was the chart above from 1990-2014 net of fees?
With regards to your questions I never said I was invested in Berkshire Hathaway, as I am not. Also I am 26 years old. And for your comment on my blog post, I appreciate the concern that you are worried that 2015 will be my first year maxing out my 401k, but I do not understand how this post led you to believe I had been investing for decades. I was just sharing my thoughts, not condemning your investment strategy. Thanks for the comment.
Thanks for getting back to my questions! I always have a default setting in my mind when it comes to corresponding with readers on investing that they have similar investing experience as me. That is my fault, and which is why I like to ask readers what they’re background is so I can better understand where they are coming from. Sometimes I get into these long, professional debates only to discover later on that the person has never worked in finance or is still in college! So, I make it a point to ask, b/c I’ve shared my background in this post, and in many other posts very thoroughly.
On Berkshire, if you are a big Warren Buffet fan, why not just buy Berkshire Hathaway stock?
Sam,
Berkshire doesn’t give out dividend, A is expensive ( one share is the price of a house) very unpopular among us dividend investors even the B shares.
Hi Fervent, co-founder of Sliced here. Love reading the dialogue here! Just as clarification, HFRI indices are all reported net of hedge fund fees.
I’m 30… based on your recommended net worth allocation by age… I should have 75% of my assets in equities and real estate.
You suggest I diversify… but at the same time you recommend I have 75% exposure to these asset classes?
FYI… that’s about what I have. Weighted strongly toward equities. I’m neutral real estate (to use your terminology).
Alternatives/hedge funds is a subset of equities/fixed income, and it can be a subset of real estate as well. At 30, I think 75% of your assets in equities and real estate sounds about right withe the remaining 25% in more conservative investments.
Got it. Any guidance on what % of your overall equities portfolio should be hedge funds?
It depends on the HF strategy and your goals. I think a range of 10-40% is in the ballpark for most people who can gain access. The access is the key word bc most people don’t have access.
I’m going to do a deep dive on my investments soon to see how it is structured. Since 2012, I’ve been effectively creating my own hedge fund through structured notes. But they are basically all index structured notes as well as one off single stock notes with -~12% annual caps. Hence, I’m excited to see what mother strategies Sliced can offer behind Long/Short and Event.
https://www.financialsamurai.com/understanding-structured-derivative-products-cdsnote-as-an-investment/
Thoughts on using VIX to hedge?
There’s massive decay when going long the VIX. Check out the long term chart. Looks like it’s going to zero.
Short term can be a good hedge, but you have to trade out of it. It can’t be passively managed in other words.
Sam
I tried to register at sliced investing and it seems it’s for accredited investor only.
Ben, you can register for Sliced Investing, but in order to participate in their fund of funds, you have to self-accredit.
I’ll write another post about self-accrediting soon. I remember when I invested in my first private equity deal, I was technically not an accredited investor. But I eventually became one soon after.
Thanks for this post. Looking forward to your post on self accrediting.