HF vs. LO: Vantage from a Junior Research Analyst - Part III: Longevity

HF vs. LO: Vantage from a Junior Research Analyst - Part III: Longevity

This week, I talk about career longevity. Word on the street is a single manager hedge fund ("SM HF") research analyst stays at one shop for an average of two years. Burning out and personal performance are two main issues.

As discussed previously (in "Directional Single Manager Hedge Fund" section), the high variance in investment philosophy at a single-manager makes it hard to generalize – so this is an attempt to paint a picture based on my understanding and personal experience.

Burn out

Burning out is caused by:

High idea velocity: Shorting is higher velocity. And most hedge funds play for multiple expansion on both the long and short sides, which is inherently higher velocity (eg. If you bought a stock trading at 10x earnings and you believe the market is willing to pay 15x earnings for the same business. When you are right and stock trades at 15x earnings, the fund will sell the stock and find the next opportunity). Most stocks are going up and down every day, creating abundance of opportunities to find the next trade, and there are always a lot more trade ideas than long-term investments, creating a higher idea velocity culture at a hedge fund than at a mutual fund. 

Maybe this is extreme but I will share my personal (unpleasant) experience. Toward the end of my employment at my prior shop, I was made to research one idea per day and needed to reach a thorough investment decision. That experience definitely strengthened my conviction to resign without an offer (it was not the only reason of course.) Furthermore, the ideas were in unrelated industries. To be more exact, I researched the following in a typical week:

  1. Monday – a lithium miner
  2. Tuesday – a language learning app company IPO
  3. Wednesday – a German space technology that promises some sort of broadband technology (I did not have time to understand the technology in one day, in hindsight not really groundbreaking technology anyways)
  4. Thursday – a pest control company that has a cannabis angle
  5. Friday – a Japanese identity management SaaS company

After sharing my personal experience with my industry connections, I realize my prior employer has idiosyncratic process issues but I was also made aware hedge funds are generally just “trading anything with a pulse”.

High stress. Risk management is a bigger thing at hedge funds because the investors expect consistent performance even in the near-term for paying higher fee structure than for a mutual fund. On top of needing to generate new ideas constantly, for current positions that a research analyst convinced the PM to buy in the portfolio, the RA needs to explain right away the implications of any new data points (new events, company press releases, etc.) to your PM.

In a longer term investment style: 1) Some data points might not matter as much because they are more near-term 2) No expectation of needing to deliver things right away (I know research analysts at mutual funds who can read earnings transcripts without having to listen to live earnings call and sending out a takeaway within 15 minutes). You just need to be aware that most hedge fund PMs believe in acting right away so that creates stress for the junior to reach a conclusion quickly, even when fast thinking might not be the best thinking (you can ask Daniel Kahneman about it).

Performance Issue

In my opinion, the path dependence (discussed before) creates another challenge for hedge fund research analysts.

Even if your three-year thesis is right, your recommendation can be derailed by a near-term trend that can take multiple quarters to resolve. Under such circumstance, the PM will exit the position and wait for a better entry point (but hedge funds face a different issue of trying to time the re-entry, when timing the market is proven to be impossible.) Implication of selling out the position means you as the research analyst either did not make money or most of time lost money on the position for your fund.

Over time, either you lost faith in your ability to add value at a hedge fund model (doesn’t mean you are a bad stock investor) and/or you will be let go. To become a hedge fund investor: you need to pay attention to both the long-term – what the intrinsic value of the business is and the near-term – understanding what are the other investors and major shareholders are thinking about and how the key metrics need to progress in order for the stock to move in your desired way. This ties back to my point of being compensated more for the need to add more value (than a mutual fund / long only does.)

Conclusion

I hope this series is helpful for you to understand what you are signing for to work at a single-manager hedge fund. If I have to venture a guess, multi-manager is even worse in terms of longevity and lifestyle, which explains why the compensation is relatively the most attractive and path to bigger responsibility is relatively shortest.

I am no hypocrite that we are in this business to make a lot of money, but make sure you account for style alignment because that’s super important for your career longevity, which I hope for all of you is longer than two years per job.

Please email me if you have feedbacks or comments. I’d love to hear from you. I will talk to you next week.

If you are interested in learning more about professional equity investing (the "buy-side"), I have two other great articles for you:

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