Opinion – From Grain to Grain: Understand how to select hedge funds

Naturally, we find it difficult to select any one item when faced with a large number of alternatives. It is no different with hedge funds. According to data from Anbima, there were more than 13 thousand funds in January 2023, divided into eight different strategies. So, how to select multimarket funds to compose a portfolio?

Maybe you don’t usually shop at the supermarket, but you’ve probably been to one. Imagine yourself in the laundry detergent industry. There are a lot of different brands and types. As there is no selection process with simple criteria, we tend to buy the brand we already know.

This selection strategy has a chance of going wrong when it comes to investment.

For the selection of any investment fund, you need to use the 5 Ps technique: Product, Performance, Perspective, People and Process.

The first three factors will help you narrow down the number of alternatives. The last two factors require greater depth. Therefore, reducing the number of alternatives is fundamental.

You will need a tool that provides you with the quantitative characteristics of return, risk, highest and lowest variation in a month, proportion of negative months in relation to the total, proportion of months above the benchmark, management and performance fees, redemption period, equity , minimum amount for investment, which strategy is pursued and start date.

These data form the first two factors, Product and Performance. You must filter funds that fall within the criteria that you elect as acceptable.

Some questions to be answered with the data above are:
1- would you accept a product that lost 7% in a single month?
2- what is the worst monthly return that would make you frustrated?
3- Would a redemption period of more than 30 days be a problem?
4- a volatility of 8% means that in 5% of the months the fund may have returns worse than -3.8% (= (0.08*1.65)/3.46). Are you comfortable with it?
5- What average long-term return are you looking for?
6- What hit rate are you looking for in a manager?
7- What is the minimum rate of return / management fee accepted?
8- What is the minimum ratio between return and risk that would be acceptable?
9- what is the maximum proportion of negative returns accepted?
10- what is the minimum period of existence?
11- Is the perspective for this strategy adequate at this time in the market?

Here, there is no single answer. You must filter those that best suit your interests.

After the quantitative filter, we move on to the qualitative one.

The qualitative filter is similar to a job interview, but in this case, you are the interviewing boss.

By investing in a fund, you are hiring the manager to carry out the work of managing your funds.

Would you give your hard-earned money to an adventurer?

Of course not. Therefore, you should evaluate the management and analysis team’s resume.

Next, it is important to interview or attend meetings with managers to understand their investment process.

What you need to understand here is how he makes his decisions.

Try to find out if there is a process that can make past successes repeat and previous mistakes be avoided.

Proper selection takes time and dedication to continually monitor changes or the emergence of new opportunities.

Usually, if you’ve made a good selection of teams to manage your resources, they should stay with you for longer than two years. But, ongoing follow-up is still required.

Michael Viriato is an investment advisor and founding partner of Investor House.

Talk directly to me via email.

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Book: The Journey to Financial Independence

summary

Introduction

Understand how you will achieve your financial independence
Living on an income is the last step on the journey to financial independence
These are the biggest questions about the journey to independence

Part 1 Construction of the plan

Chapter 1 The first step in building the blueprint for financial independence
Chapter 2 How do you define the rate of return in your plan for independence?
Chapter 3 Find out what equity you need to achieve your financial independence
Chapter 4 On your journey to independence, don’t overlook the importance of this factor
Chapter 5 Understand the two ways I applied to increase my saving capacity
Chapter 6 If You Double This Factor, Your Equity Can Multiply Much More
Chapter 7 Connecting the dots to build your plan

Part 2 Assembling the portfolio to lead you to financial independence

Chapter 8 Before making any investment, define these two factors
Fixed Income

Chapter 9 You should not build an income portfolio if you want to reach equity to live on income
Chapter 10 Avoid these two common fixed income investor mistakes
Chapter 11 In fixed income, does it pay to invest in private credit in relation to public credit?
Chapter 12 Discover how to win the private fixed income premium, but with low risk
Chapter 13 This is the simplest way to plan your financial independence with fixed income
Chapter 14 With our interest rates, find out if it pays to invest in dollars
Variable income

Chapter 15 Taking a risk can accelerate your journey to financial independence
Chapter 16 What is multimarket funds and how did they come about?
Chapter 17 Understand how to select hedge funds
Chapter 18 Real Estate Investment Funds
Chapter 19 Actions
Chapter 20 Alternative Investments
Investment funds and Private Pension