Hedge Fund Education Center

Why Track Hedge Funds?

Hedge funds returned 8.5% in 2017, 5.5% in 2016, -0.4% in 2015, 1.4% in 2014, 11.1% in 2013, and 4.8% in 2012. These are embarrassingly low compared to the S&P 500 ETF (SPY)’s 21.7% gain in 2017, 12% gain in 2016, 1.2% gain in 2015, 13.5% gain in 2014, 32.3% gain in 2013, and 16% gain in 2012. Equity hedge funds have also been underperforming the market during the first 11 months of 2018. Does this mean that hedge fund managers are dumb as a rock when it comes to picking stocks?

The answer is definitely no. Our best performing hedge funds strategy which identifies the consensus small-cap picks of all hedge fund managers returned 78.4% since its inception in May 2014, vs. a gain of 60.4% for SPY (see the details as well as back test results here). We have been tracking the returns of our battleground short stocks since February 2017. These stocks lost 24% since then vs. a gain of 22.8% for SPY during the same period. This means investors could have generated an alpha of 46.8 percentage points by shorting our “battleground short stocks” instead of the S&P 500 Index.

So why is there such a huge difference between actual hedge fund returns and the performance of their best ideas?

Let’s explain:

1. Historically hedge funds delivered high alpha, especially when compared to the mutual funds and index funds. This success attracted more and more funds from investors who didn’t want to be left out. As hedge funds’ assets began to swell, they started to invest in “ideas” that they’re less comfortable with. Returns in a hedge fund’s 35th best idea won’t usually return as much as the hedge fund’s top five ideas.

They also allocated a higher percentage of their portfolio to larger-cap stocks which are relatively more efficiently priced. So it isn’t surprising that hedge funds’ alpha has been on a declining trajectory for the last decade. Some of most recent studies even claim that the average hedge fund today doesn’t have any alpha.

2. This should be alarming for hedge fund investors. Hedge funds are becoming like mutual funds. Not generating any alpha doesn’t mean that hedge fund managers are losing their stock picking abilities. One reason for that is the adverse selection problem. People with no stock picking ability have enormous incentives to launch hedge funds. If they get lucky, they’ll make millions. If they don’t get lucky, the investors will lose and not them. Bottomline is that not all hedge fund managers are talented. Investors need to avoid pretenders.

3. The third reason is that hedge fund managers pocket between 30% and 80% of their total (gross) returns. The residual returns after fees and expenses are what investors get and these are the returns that researchers say have no alpha anymore. Hedge funds still generate positive alpha before management fees.

So why do we track hedge funds? Because we want to find out the “best stock picks of the best hedge fund managers and don’t pay them a dime”. The returns of our best performing hedge funds strategy support our thesis that it is possible to identify the best stock picks of the best hedge fund managers and we don’t have to pay them a dime for these publicly available stock picks.

A typical manager has a small number of good ideas. He’ll give higher weight to these ideas in his portfolio. The remaining positions are usually large in number but smaller in weight. These positions help fund managers to diversify, deploy more capital, and extract higher management fees. Investors shouldn’t invest in these mediocre ideas; they reduce average returns. Investors should avoid mediocre fund managers; they have no skill in picking stocks. Finally, investors shouldn’t pay 30-80% of their profits as fees to turn hedge fund managers into billionaires. Read the details of our best performing hedge funds strategy that seems to be successful in achieving these goals.

Who are we?

Insider Monkey is one of the fastest growing financial research websites on the web, read by 1.5 million people every month.

Our research is headed by Ian Dogan who is a former fund manager, holding a Ph.D. in the field. We partnered with Marketwatch and created the Marketwatch/Insider Monkey Billionaire Hedge Fund Index.

Our content has appeared on:

The Wall Street Journal Marketwatch The Motley Fool Seeking Alpha The Street NASDAQ
  • I've been an Insider Monkey subscriber for a couple years now and the flagship strategy is one of the best strategies in my portfolio. Because the strategy is small cap you will see some major short term swings, but if you can follow the strategy and rebalance only once every quarter you will see some really strong results once you hit the 12 month time frame and beyond.
    David L.
  • I initially became aware of Insider Monkey when Meena was interviewed on Business News Network (BNN) in Canada. The idea of mimicking the best ideas from the best fund managers was appealing (as I have met many smart managers on Bay Street in Toronto). While I have only had the newsletter for one year, the Insider Monkey allocation has been the best performer in my equity portfolio. I look forward to continued outperformance in the future.
    G. Chin
    Toronto, Canada
  • I first came across Insider Monkey (IM) nine quarters ago (1/2013) and since then have enjoyed exceptional returns. Last year (3/2014) I traveled to NYC to meet the founder because I was thinking about doubling down on their strategy. I left favourably impressed and proceeded. It was a smart move. At the beginning of this year I decided to double down again. There are no guarantees but preliminary results are promising.

    Why do I recommend IM?
    1. It's easy: 15 picks every 90 days. Most picks are repeated at least once, some more than eight times.
    2. It's flexible: if a pick goes bad you only hold it for 90 days.
    3. Time saving: the IM team vets hundreds of HF SEC reports every 90 days and produces a list of 15 SC picks from the best stock pickers in the world. A world-class research department for less than a dollar a day.
    4. It works. Need I say more?

    One admonishment: have faith in the model, hold all 15 picks for ninety days.
  • I want to thank you and the team for the great results this past year. Many of my friends and colleagues use profesional financial advisors and annually pay 1% to 1.5% of their portfolio value for mediocre results. Insider Monkey's performance is outstanding for a mere fraction of the cost. I am an analyst for a utility and have always wanted to invest in high growth small cap stocks, but I have never had the time, expertise or access to the information needed to effectively research them, and was never comfortable with casual stock recommendations from magazines, blogs, and television. I had never subscribed to a premium publication but was immediately impressed with the Insider Monkey team’s analysis and the proven results of the 15 Stock Small Cap Strategy.

    Keep up the great work. Thus far, the Insider Monkey team’s approach has enhanced my investment portfolio and I look forward to future issues and following the team’s investment strategy throughout the foreseeable future.
    Jim T.
    New York