The Little Book of Hedge Funds: What You Need to Know about Hedge Funds But the Managers Won’t Tell You by Anthony Scaramucci

The Little Book of Hedge Funds: What You Need to Know about Hedge Funds But the Managers Won’t Tell You by Anthony Scaramucci

Chapter One
What Is a Hedge Fund?
The Traditional Long-Only Portfolio
versus the Alternative Hedge Fund
Portfolio
Hedge funds are generally perceived to be the investment of choice
of the rich and the informed, and they are more interesting and fun
to discuss than your Vanguard index fund.
—Cliff Asness, AQR Capital Management
The year was 1989. I had just started working at Goldman Sachs in the
world of investment banking—the industry adored by many Ivy League
students and business school graduates. A few floors up, legendary
research director Lee Cooperman was asked by Goldman Sachs to create
a mutual fund and lead the Asset Management Division. This long-only
equity mutual fund was called GS Capital Growth.
Although Cooperman was extremely successful at picking stocks and
examining company income statements and balance sheets, he was
intrigued by the opportunity of starting a hedge fund, as he saw its
potential to profit from smart stock picking even if the market seemed
overvalued at times. And so, he approached the head honchos at
Goldman, trying to convince them to start a fund. At the time, they
passed as they were concerned over the consequences of shorting the
stock of one of their investment clients. After all, no investment bank
would want to put a sell recommendation in writing for fear of losing its
relationship with the companies it covered . . . especially when there
were advisory fees on the line. The thought of shorting a client
company’s stock back then was unthinkable. For Lee Cooperman,
however, his passion was managing the money not managing the
business.
Shortly thereafter, he started Omega Advisors. While his fund has
experienced some ups and downs, he has had a spectacular career
replete with great performance for his clients. The fund’s ability to
hedge risks through shorting, options, and derivatives has allowed his
portfolio to have lower volatility and higher returns than he could have
achieved in a classic mutual fund.
So, why am I telling you this story? Well, on a simplistic level, a Little
Book of Hedge Funds just wouldn’t be complete without a few big
stories from big personalities who have become hedge fund legends. In
fact, that is exactly what the hedge fund industry has become—big! Its
managers’ personalities. Its successes. Its failures. Its mystique. Its
impact on the global market. Granted, it is a small, young industry that
is still undergoing a maturation process, but this is an evergreen industry
that has a big impact on the market and investors.
Right now we are witnessing an explosion in the hedge fund industry
similar to the one the mutual fund business experienced more than 50
years ago. We are witnessing a transition of assets—and while there is
competition from mutual funds, hedge funds will be a continued source
of power in the world of money management.
So, back to my original question—why am I telling you all of this? In
order for you to understand the hedge fund industry—its impact on the
market and your investments—you need to first understand this
alternative investing tool and how it differs from traditional asset classes
such as mutual funds.
Although mutual funds are similar to hedge funds in that they are both
pooled investment vehicles that invest in publicly traded securities in
order to generate a positive return, there are a number of differences
between these two fraternal twins. In this chapter, we will explore these
differences. In doing so, we will gain a better understanding of the true
meaning of a hedge fund so that you can better ascertain if it is an
appropriate investment vehicle for your portfolio, while also helping you
get a better sense of its impact on the overall market.

The Little Book of Hedge Funds: What You Need to Know about Hedge Funds But the Managers Won’t Tell You by Anthony Scaramucci