Here’s another article I found while searching for news on the aforementioned Bailey Coates fund that just shut down: “Behind the Hedge Fund Facade - the Usual Herd“. That article paints a pretty bleak picture of hedge funds. No doubt some (many?) may be as bad as that article says but I have to believe that there are some really sophisticated funds out there as well. (Then again, I guess LTCM was supposed to be sophisticated!) Some snippets:

The hedge fund community has built a mystique that is both a marketing tool and a barrier to industry entry. Part secrecy, part intellect and part an aggressive appetite for risk, this mystique speaks to the observer of the inherent superiority of the hedge fund manager. He may not be able to master the markets but the odds are loaded in his favour by virtue of nature and nurture. Or so his marketing pitch might subliminally encourage you to believe.

The private day trader has no such aura of invincibility or even of respectability. Alone with his broadband connection and mobile phone, he relies on a series of market sources to give him some small edge in his battle against the big money. Derided by many as a spiv or a punter, he labours under others’ suspicions that any winning trade must be the result of illicit information, luck or a foolish attitude to risk that will ultimately prove his comeuppance.

In practice, both the Mayfair lords and the Chigwell commoners employ similar trading tools. Both leverage their exposure to stocks by trading on margin, facilitated by the now widely available contracts for differences; both also seek out opportunities to “short” shares (selling stock that they don’t own in the expectation of buying it back more cheaply). Leverage and shorting raise the trading stakes, exaggerating returns and so increasing the chances of rapid gains and losses.

The differences between a major hedge fund and a man in an office above his suburban garage are ones of scale, resource, information and, one supposes, discipline. Look beyond the trappings of hedge fund life, though, and you find that a number of hedge funds are little more than the office above the garage transported to Curzon Street.

The peril comes not from portfolio losses as such shares have fallen, but the risk that investors in the hedge funds wake up and recognise their managers’ investment styles for what they really are: momentum trading driven by market noise, dressed up as something much more intellectual. [read the entire article...]