How the mentality of herds hurt the hedge funds

As they hunt for good trade ideas, hedge fund money managers have a new source of worry: their friends.

At this year’s downbeat Morgan Stanley hedge fund conference in Palm Beach, investor Paul Tudor Jones used the metaphor of cattle grazing to describe the complaint du jour of “crowding”. He compared trading in the euro versus the US dollar to a herd that eats grass down to the roots. When the land is bare, the cows all move on together, creating dislocation as they do.

Hedge funds for years lamented that directional markets were boring and wistfully recalled turbulence, which allows investors to show off their manoeuvrability and trading prowess. Now they have their wish, with markets whipsawed by the Federal Reserve’s actions and the Fed whipsawed by markets in turn. But for most hedgies, it’s not working out how they’d planned.

By the end of January, hedge funds on average had lost 2.7 per cent and managers were joking that it had already been a long year. That sentiment persisted in February -— though markets rallied, the industry posted additional average losses of 0.06 per cent, according to Preqin data.

One explanation for the gloom is Mr Jones’s herd. The chaos makes smart trading difficult.

Trading in widely-held or widely-shorted names such as Facebook, Apple, and Netflix is already at the mercy of the view of hundreds of hedgies. Breaking away from them may lead to greener pastures.

Source: Financial Times

Jr Trader Ivan Ivanov

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