Kevin R. Mirabile - Hedge Fund Investing: Understanding Investor Motivation, Manager Profits and Fund Performance

Hedge Fund Investing
2020 by Kevin R. Mirabile

All rights reserved. This book or any portion thereof may not be reproduced or used in any manner whatsoever without the express written permission of the publisher except for the use of brief quotations in a book review.

ISBN (Print): 978-1-09832-464-3
ISBN (eBook): 978-1-09832-465-0

This book is dedicated to my wife Maureen,
my children and their spouses, whose support and encouragement have made this book possible.

Contents

Preface

This book is designed to provide investors, advisors and academics with a working knowledge of that portion of alternative investments known as hedge fund investing.

The third edition of this book includes important updates related to industry flows and performance, plus new material covering some new and exotic hedge fund offerings that have gained popularity since the last edition.

The original motivation to write this book was to deliver a holistic view of hedge fund investing. That motivation has not changed. The intention was to provide a cradle-to-grave perspective for first-time investors, for practitioners dealing with hedge funds as clients or counterparties and for academics or students wishing to learn how the sector operates from both a theoretical and practical perspective. My personal experiences as a banker, accountant, service provider, investor and partner in a hedge fund and a fund of hedge funds allows me to deliver some practical insights that I believe will facilitate learning. My academic training and research allow me to uniquely deliver both practical and theoretical perspectives and insights.

The goal for this third edition is to once again present a comprehensive view of the reasons people invest in the sector, to discuss how the managers, funds and strategies interact and to recommend criteria that individuals can use to select managers and funds. The approach is to cover a wide range of material in sufficient detail to familiarize readers with the issues, without getting lost in the multitude of details such as the regulations and mathematics needed to fully investigate any single topic. My hope is that by keeping it simple in this text, readers will learn enough about the asset class and the process of investing to give them confidence to move forward with asking the questions needed to become a great investor. Importantly, one of the primary goals for this book is to make the asset class accessible and to demystify what is at times presented as an overly complex and esoteric category of investing. My approach is to deliver a balanced discussion of the broad spectrum of information needed to invest in hedge funds; however, it is inevitable that certain sections garner more emphasis than others.

The vast majority of information in this text comes from my personal experience in providing services to hedge funds, trading with hedge funds, lending to hedge funds or investing in these funds over the past 35 years. It also includes the advice and input of former colleagues and friends in the industry who share my interest in promoting educational efforts about hedge fund investing. It is only through education that the myths of hedge fund investing can be debunked and the opportunities can be assessed objectively. In this way, more people can reap the rewards and benefits of hedge fund investing while also fully understanding the risks of this exciting asset class.

This book is designed for those who have a basic knowledge of financial instruments, markets, asset allocation and portfolio management. A rudimentary knowledge of statistics and some of the basic principles of calculus is also helpful, although not a requirement. One thing is for certain - it is critical you have a working knowledge of securities and markets before you sit down to evaluate any hedge fund investment. A bit of knowledge about futures and options is also a plus.

The book is organized into three parts related to basic concepts and market characteristics, an explanation of the individual strategies and financing tools used by hedge fund managers and an overview of the process needed for the evaluation and analysis of individual managers and funds (including approaches to performing a due diligence process on any one fund). Each chapter has its own individual objectives and illustrations that can be read on their own or as part of the complete text.

Part one of the book provides readers with an overview of alternative investments. It highlights the similarities and differences among various types of alternatives, including hedge funds. It establishes the framework for understanding fund-level profit or loss calculations, performance measurement and risk. It also provides readers with an understanding of the rationale for investing in hedge funds as well as the flows experienced by the sector over time.

Part two is designed to explore several of the most prominent hedge fund investing strategies in more detail. It provides straightforward explanations of the important terms, definitions, trades, organization structures, portfolio constructions, performance measurements and risk assessments used in each strategy. Strategies are organized into those that are not directly correlated to the traditional stock and bond market, those that are equity or fixed income oriented and those that are multi-strategy in nature. It also includes new sections on the financing market and the secondary market for trading in hedge fund investments.

Part three explores the nature of absolute, relative and risk-adjusted performance measures and the impact of fund characteristics related to compensation arrangements, fund terms and environmental conditions that motivate behavior and influence performance. This section also covers the due diligence process for selecting a single hedge fund for investment from a universe of peers. Topics covered include how to quickly assess and evaluate the people, pedigree and processes that establish the DNA of any fund, understanding the investment and risk management process of a fund, the impact of the funds business model and counterparty risk on the funds performance and sustainability and the role of a funds service providers in creating opportunities for a fund, influencing a funds performance or protecting investors from fraud, blowups or other calamities. The book ends with some final observations as well as a review of the challenges faced by the industry today and the outlook or trends that are likely to continue going forward.

This book can be used by investors and advisors on a stand-alone basis or by educators in conjunction with supplemental material available from the publisher, including PowerPoint slides, end-of-chapter discussion questions and a test bank of over 100 questions. Educators can download the test bank and other learning tools at the publishers website.

Acknowledgments

This book is possible only as a result of the support of my family Maureen, Sarah, Jared, Andrew, Minnie and Will and all the terrific people I have had the chance to work with during my career, both in industry and in academia. I am also grateful to the alternative investor community at Fordham University and its many alumni, as well as all my former colleagues and friends who continue to lecture in my classroom and provide insights and information that have contributed to this book and to my knowledge of the hedge fund industry over the years.

About the Author

Kevin R. Mirabile is currently a Clinical Associate Professor of Finance at Fordham University, where he teaches courses on the principles of finance, investment analysis, derivatives and alternative investing. He has over 35 years of banking and asset management experience in the U.S. and abroad, including senior executive roles related to securities operations, derivatives, securities financing, asset management and hedge fund investing at Morgan Stanley, Daiwa Securities and Larch Lane Advisors. Today he also serves as independent mutual fund trustee for Fiera Capital Management. Mr. Mirabile is an active speaker and consultant on topics related to finance, alternative investing and hedge fund issues and has published several articles and books related to hedge fund investing. He is currently working on a new book on Exotic Alternative Investments due to be published in fall 2020 by Anthem Press. Mr. Mirabile received his B.S. in Accounting from S.U.N.Y Albany in 1983, M.S. in Banking and Finance from Boston University in 2008 and doctorate in Finance and Economics from PACE University in 2013. He is a C.P.A., a member of the A.I.C.P.A. and the Greenwich Roundtables Founders Council and a Founding Member and former Chairman and Trustee of the Newburgh San Miguel Academy.