Alternative Investments: Part 1 – performance is seductive but over-hyped.

Some of you know I spent 10+ years marketing Hedge Funds to institutions in addition to traditional investments.  Let me lift the curtain on what is going on at the institutional level.

The biggest difference from how a retail investor approaches Hedge Funds vs an institutional investor is the fascination with performance.   To retail investors, Hedge Funds are great because they hold out hope for large returns.  For an institutional investor, it is the low correlation to traditional assets classes that acts as the catnip.

When marketing to institutions, the marketer simply states they are targeting high single digits – low double digit returns – while trying to avoid negative returns.  This is all the performance any investor really needs.  At 7.2% per year, your money will double in a decade.  So, the focus in the institutional world is the correlation to other asset classes, not super-star performance.

However, the average retail investor falls in love with high rates of return that appear in the Wall Street Journal.  “Man, if I could just buy into a fund that produced 16% per year – I could retire so much earlier and sail around in my much bigger yacht…….”

Of course 16% is better than 7.2%, but the chances of you missing the boat completely – and getting a dog that returns like  -9% – is also much higher when chasing after the hot manager.

So the question boils down to what you should do with your 30 years as an investor?  Sadly, we only have a limited amount of time to play the investment game.  My advice is to spend our limited resources on our highest conviction bets.  You know, stay focused on what seems to have worked over reasonable periods of time to the investor.  10 year returns?  Equities have done very well when measured over larger time frames.  In fact, everyone should google “Buffet 1mm bet”.

Sure, large long-term hedge fund track records do happen, but can you identify the winners in advance?  Joe and Jane average?  Not a chance.  Even worse than pure bad luck.  If you googled the Buffet bet – that was a super-savvy, hyper-informed hedge fund guru.  How’d he do?  You think you can do better?……..really?

So, learn from the institutional crowd.  Focus on the big picture – find techniques that will get you to and through retirement.  That will mean ignoring the performance of many funds featured in the press.  Or another idea……….find someone willing to take another Buffet – like bet, that would probably be a winner for you……..