Lately, in newspapers and financial websites around the world we can read about the Valeant case, the pharmaceutical giant that has seen the collapse of its stock more than -50%, of 51.46% exactly, knocking out some of the best known among the hedge funds among the global finance.
This story has been defined as the cause of a bloodbath, and a real shock on Wall Street. The shock has engulfed not only small investors, but also the world of the big hedge funds even decreeing the end for smaller hedge funds.
All this comes to confirm the fact that 2015 has not been a particularly brilliant year for hedge funds and 2016 will be the same.
According to the research of the Hedge Fund Research, US hedge funds in the last year have stumbled in such large losses causing the highest number of closures for bankruptcy since 2009.
Last year, there have been 979 fund closures against 864 in 2014, equal to the worst performance after the financial crisis of 2008. In January 2016 the level of assets under management fell below $ 3 trillion for the first time since May 2014.
Among losses and liquidations, the industry of hedge funds in 2016 saw an outflow of $ 64.7 billion in January. The crisis of new capital has continued in February, the month that has always been in favor of fundraising for hedge funds.
The main sources of hedge fund problems seem to be the market turbulences, the increased risk aversion of investors and a lack of patience, caused by low returns generated in the second half of 2015. This is how it started the demands for the refunds of capital.
To confirm the bad performance of hedge funds, there is the performance of the HFRI, the Fund Weighted Composite Index, that fell of 0.9% last year, according to the Hedge Fund Research.
The main cause of these losses seems to be the use of mathematical and quantitative algorithms (known as HFT, High Frequency Trading) which have turned into a disaster in a market with no directionality.
How can we overcome this tendency? What can investors do?
Adam Sarhan writes Forbes that there are at least three lessons that investors can learn from the Valeant case.
- “Don’t Fight The Tape. Every great stock in history eventually needs to be sold. This doesn’t mean that the stock doesn’t soar from here it just means that fighting the tape is futile for both your mental and physical capital. (…) This lesson applies to both the long and short side.
- Respect Risk At the end of the day, we are all managing risk. Successful investors simply know how to manage it better than others. (…) Irrespective of their individual investment approach, background or objective. If you win more than you lose, you will be around for a very long time.
- Date, Don’t Marry, Your Positions. Successful investors know that being flexible is important to being successful on Wall Street. When the “facts” change, it is important that you change your stance and adjust accordingly. The primary thesis that guides our investment philosophy is that: Human nature never changes. (…) Admitting you are wrong (the faster the better) is very difficult for many people to do. Yet, it is a necessary trait to being successful in this business.”
JP Morgan, however, offers a cure for the funds that have managed to stay alive. According to the investment bank, one of the problems of the under-performance of last year was the overcrowding of the industry which has reduced the opportunities available to operators. In fact, instead of adding new capital to hedge funds, many investors have planned to “recycle” their capital by transferring to operators who rely on strategies dictated by the volatility.