Elliott Management‘s 2014 Q4 investor letter is out. Billionaire Paul Singer’s Elliott Associates returned 0.5% during the fourth quarter and 8.2% for 2014. Elliott International Limited’s gain for 2014 stood at 6.8%. If you don’t care about wasting a lot of money on hedge fund fees, it is better to invest in Elliott compared to investing in an average hedge fund. If you really care about beating the market and minimizing your expenses, you should try Insider Monkey’s newsletters. Elliott’s hedge funds, which had $25.1 billion in AUM at the end of 2014, returned around an annualized 12.5% since 1994. That’s slightly better than S&P 500’s 9.8% gain over the same period. Insider Monkey’s small-cap hedge fund strategy was launched 2.5 years ago and managed to beat the S&P 500 Index by an average annualized rate of 20 percentage points.
Let’s talk about Elliott’s investor letter a little bit and explain why Elliott is a good hedge fund to follow and why you should cover your ears and sing when Paul Singer is talking macro. People who call Roubini Dr. Doom haven’t heard Paul Singer’s macro comments. If I didn’t know how Elliott invests and makes money, I would never ever consider paying attention to Elliott’s stock picks after listening to Paul Singer’s assessment and predictions regarding the macro situation and policies. It is truly crazy stuff. Let’s summarize what Singer is saying:
1. Investor may reject paper money: Money “debasement may have very different effects in a possible renewed downturn, and may actually result in investor rejection of paper money in the next round. If this rejection occurs, then it would be toward the top end of surprises for investors as well as policymakers, given the current consensus array of views.”
2. Completely clueless about what would happen to stock prices if confidence in paper money disappears: “Stocks are much harder to figure out. Profit margins in the U.S. are at the top end of their historical range, and equity market valuations are generally high. But if confidence in paper money or in the currently-viewed “safe havens” of the U.S. dollar and/or government bonds of the developed world disappears, it is anyone’s guess whether the expression of that loss of confidence would be a run-up in stock prices (if they are viewed as the “most real” liquid financial asset) or a rout (if the competition in yields from crashing bond prices caused a commensurate fall in stock prices).
3. Completely delusional about the how things would have been without Fed’s enormous intervation since 2008: “The government can make all the excuses it wants, can shout from the rooftops that the policies over the past six years are “working,” that financial crises take a long time to heal and that in the absence of its policies things would be a lot worse. But that volume does not change the fact that this recovery has been uniquely sluggish, and that millions of Americans have suffered from the poor policies of the last six years (Europeans have been subject to similar policy landscapes). Obviously better policies (known to all nonideological economists) would have created higher income growth and faster and more sustainable jobs growth than ZIRP and money printing (and with less of an effect exacerbating inequality).”
4. Complains about derivatives as well as regulators’ attempt to regulate banks: “The enormous derivatives positions are the main (but of course not the only) culprit in the long march toward an unsound global financial system. Of course, the government should not have encouraged (actually, demanded) that mortgage loans be made to people who put up no money and were not creditworthy, and “homeowners” should not have taken on such burdens or lied on their loan applications. But the proximate cause of the collapse was the instability of the financial institutions, due to their opacity and over-leverage.”
5. All developed economies are long-term insolvent: “s. Nearly all of the countries in the euro block are long-term insolvent (as are Japan and the U.S.) because of a combination of debt and unpayable long-term entitlements.”
6. Inflation numbers are artificially understated, serious inflation is a serious possibility: “Nobody has ever seen anything like this QE/ZIRP/NIRP before, and nobody knows how it will turn out. Saying serious inflation is impossible and can be dealt with easily if it rises out of the permitted range is an act of blind faith. Focusing all policy efforts on boosting inflation rather than on structural reforms to boost growth will potentially be seen in retrospect as one of the most inexplicably ridiculous mass delusions in the history of economic and monetary policy in the developed world.”
7. The decline in oil prices is bad for US growth; we should take action to boost oil prices: “The price plunge is new, but if it is not reversed relatively quickly, it could make the apparently strong economic numbers in the U.S. in recent months seem like a lost warm memory by the middle of 2015.”
I will take a moment and state that this is the dumbest thing I ever heard. So, if oil prices decline to zero accidentally, that’ll potentially mean ruins for the World’s biggest energy consumer?
8. China is on the verge of a 1929-like collapse: “We cannot know whether the corruption, bad loans, see-through projects, and internal dynamics of the Chinese system are bad, very bad, or headed for a crack-up, but any set of developments that challenge the widespread assumption of complete Chinese control over its destiny would be a very large shock to global markets. We suggest you take a look at a chart of Chinese retail margin debt, but not just right before bedtime. It looks something like the U.S. figures heading for 1929.”
9. Clash of civilizations imminent?: “Economic hardship is another piece of the puzzle governing the extent to which violent extremism takes hold of societies. Europe, in part because of the unintended (but entirely predictable) effects of the euro currency union, is in its seventh year of economic stagnation. Unemployment and underemployment are high, especially among the region’s youth. This economic environment is a foul ground in which anger and racial, religious and ideological hatreds flourish. Such an environment does not constitute firm ground on which a strong economic recovery can be based. Jews (the populace which often bears the brunt of an upsurge of xenophobia and societal anger) are leaving France in sizeable numbers, and will continue to do so if they do not feel safe and protected. A similar scenario may also result in other countries as well. If terrorism and the concomitant struggle between radical elements of Europe’s Muslim populations and the states within which they reside intensifies, do you think that business expansion will be hampered, canceled or just not planned? We think the answer lies somewhere on that spectrum. Whether that will happen is anyone’s guess. The prospects are very unclear at present.”
Singer also said “we do not think this optimism is warranted, and we think a lot of the data is cooked or misleading” in his previous investor letter. These statements don’t seem to be coming from an extremely successful hedge fund managers. They seem to be coming from a paranoid, delusional, fear-mongering TV talking head. Don’t be fooled by these statements though. Paul Singer actually makes money and delivers strong returns to his investors by taking charge when he is invested in a stock. He doesn’t leave things to chance a lot and he is a bulldog when it comes to going after self-serving CEOs and boards. We get hints of this in his investor letter too:
“Every money manager makes mistakes in the course of a career. Sometimes the mistakes are isolated, and sometimes they come in bundles or waves. It is not necessarily fewer mistakes or a perfect process that accounts for Elliott’s consistent track record. Rather, we think that a strategic factor is very important in minimizing the impact of such miscues.
We are referring to the pursuit of “manual” situational trading (activist equity, hands-on participation in bankruptcies, and activist event arbitrage), as well as process-driven trading (in areas where process, not the value of businesses, drives the result) in which there is commonly an opportunity following a mistake to dig oneself out of the hole, move in another direction, and impact the situation so as to minimize the loss from the mistake or turn it into an opportunity for profit.
By contrast, outright directional investing does not present these opportunities. If one has an outright passive directional bet that goes sour, you can add to the position or subtract from it, but you are not as likely to be in a position to influence the result and turn it around. Of course, Elliott takes on some passive directional trades, but wherever possible we try to orient our capital toward situations whose characteristics give us the opportunity to lift ourselves out of mistakes.
This observation leads to a discussion about the quality of positions. We try at Elliott to evaluate potential holdings not only for their raw risk and reward probabilities but also on quality as we define it. Furthermore, our team is trained never to “fall in love” with a position or idea, but to be ready to change their minds on a dime if the facts change or a better analysis is presented.
At the top of the quality scale is a completely process-driven uncorrelated position that enables us to be active and control the process. We do not mean that such positions have the best profit potential or even the most attractive risk-reward profile. Nevertheless, lack of correlation with stock and bond markets reduces the need to hedge with unrelated instruments, and such positions frequently present opportunities for us to control our destiny. We like those situations the best.
At the bottom of the quality scale is an outright directional position with no opportunity to change directions if we make a mistake. We embark on such trades where the economics are compelling and the risks are known and manageable, but when sizing them, we take into account their “quality” characteristics, as well as the extent of other such positions in the portfolio as a whole.”
To summarize, we are putting up with Paul Singer’s ramblings because he is a very good activist investor. If you had placed equal dollar amounts to each of Singer’s top 5 stock picks and update your portfolio quarterly as Elliott filed its 13F, you would have returned 1% per month between 1999 and 2012, vs. 0.29% monthly gain for the S&P 500 Index. Investing in the top 5 stock picks of Paul Singer returned even more between 2008 and 2012: 1.26% per month vs. 0.29% for the S&P 500 Index. Did you notice that these returns are much better than his actual returns? That’s because you aren’t wasting your money on hedge fund fees or unnecessary hedges. So, what are Paul Singer’s top 5 positions today? You can check out Paul Singer’s moves on this page. Soon we will introduce free, real-time email alerts so that you get to see the changes as soon as they happen. Don’t pay hedge funds an arm and a leg when you can imitate their best stock picks and outperform their returns all by yourself.