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KCS Fund Strategies Inc. Disciplined Fund of Hedge Funds Portfolio Management

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KCS Fund Strategies Inc. Disciplined Fund of Hedge Funds Portfolio Management Contemporary Perspectives on Hedge Fund Investing CFA Victoria February 21st, 2007 – PowerPoint PPT presentation

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Title: KCS Fund Strategies Inc. Disciplined Fund of Hedge Funds Portfolio Management


1
KCS Fund Strategies Inc.Disciplined Fund of
Hedge Funds Portfolio Management
Contemporary Perspectives on Hedge Fund
Investing CFA Victoria February 21st, 2007
2
Agenda
  • Why add hedge funds to a portfolio?
  • Why take a portfolio approach?
  • What are the merits of low volatility hedge
    funds?
  • Is an equity investing framework useful?

3
  • What is a Hedge Fund?

4
Description
What is a Hedge Fund?
  • Similar to mutual fund
  • Professionally managed pool of assets
  • Specified objectives
  • Investors typically must be qualified or
    accredited
  • Short positions/hedging allowed
  • Leverage
  • Position concentration
  • Lower liquidity
  • Trading strategy ? investment strategy

5
Hedge Fund Strategies
What is a Hedge Fund?
  • Equity Long/Short
  • Equity Market Neutral
  • Dedicated Short Bias
  • Emerging Markets
  • Convertible Arbitrage
  • Fixed Income Arbitrage
  • Event Driven
  • Merger Arbitrage
  • Distressed
  • Global Macro
  • Managed Futures / CTA
  • Multi-Strategy

6
Typical Hedge Fund Trade
What is a Hedge Fund?
Hypothetical Convergence/Divergence Pairs Trade
110
Trade Initiated
Trade Initiated
100
Trade Completed
Trade Completed
90
Price
80
70
60
50
Asset 1
Asset 2
7
Typical Hedge Fund Trading Model
What is a Hedge Fund?
  • A convergence hypothesis underlies the trading
    model of most hedge fund managers
  • Trading models are analogous to business models
    for private or public companies
  • Evaluation of likelihood of success is similar
  • Focus on quality, track record of managers
  • Ensure strategy is well articulated
  • Look for sustainable competitive advantages

8
  • Why add Hedge Funds to a Portfolio?

9
Stability of Returns Outperformance
Why add Hedge Funds to a Portfolio?
10
High Return per Unit of Risk
Why add Hedge Funds to a Portfolio?
CSFB/Tremont Indices vs. Traditional Assets
Since February 1997
20
16.3
15.2
15
Returns
9.8
9.0
10
7.1
7.2
Standard Deviation
5
0
Tremont Hedge Fund Index
SP 500
TSX
11
Diversification Benefits
Why add Hedge Funds to a Portfolio?

Correlations Since February 1997



CSFB/
Tremont

SP 500

TSX





SP 500

0.43



TSX


0.79


0.62
Scotia Bond Index


0.12
-0.02
0.05
12
Drawdown Recovery
Why add Hedge Funds to a Portfolio?
  • Drawdown
  • Period of negative returns from peak to trough
  • Hedge Fund Indices
  • Less severe and faster recovery

13
  • The Need for a Portfolio Approach

14
Benefits of Portfolio Approach
Need for a Portfolio Approach
Annualized Standard Deviation of Various Equities
83.18
90
80
70
55.59
60
50
40
26.27
30
16.40
20
10
0
BCE
Nortel
Kinross
TSX
15
Benefits of Portfolio Approach
Need for a Portfolio Approach
Annualized Standard Deviations of Hedge Funds
30
25
20
13.72
12.44
15
7.82
10
5.81
5
0
10 Largest Canadian Hedge Funds
10 Largest Global Hedge Funds
CSFB/Tremont Hedge Fund Index
HFRI Fund of Funds Index
16
Risk of One Stock vs One Hedge Fund
Need for a Portfolio Approach
BCE - February 1997 to December 2006
40
35
30
25
20
15
10
5
0
50
40
30
20
10
0
-10
-20
-30
-40
Representative Canadian Hedge Fund - February
1997 to December 2006
40
35
30
25
20
15
10
5
0
50
40
30
20
10
0
-10
-20
-30
-40
17
Risk of non-Blue Chip stocks
Need for a Portfolio Approach
Some extreme returns exceed scale and are lumped
at /- 50
18
Risk of Hedge Fund Index vs Equity Index
Need for a Portfolio Approach
19
Risk of Hedge Fund Index vs Equity Index
Need for a Portfolio Approach
20
  • The Merits of Low Volatility
  • Hedge Funds

21
Hedge Fund Strategy Risk Profiles
Merits of Low Volatility Hedge Funds
Hedge Fund Strategies to the left are less
volatile and have higher return per unit of risk
(i.e. standard deviation).
22
Hedge Fund Strategy Betas
Merits of Low Volatility Hedge Funds
Hedge Fund Strategies to the left have lower beta
(i.e. sensitivity) to the SP 500.
23
Best Diversification includes Global HFs
Need for a Portfolio Approach
  • Globally 1.5 Trillion with 8,000 managers
  • Canada approx. 60 Billion with 70 managers
    (Canada Hedge Watch)



As of December, 2006
24
  • Applying an
  • Equity Investing Framework
  • to Hedge Funds

25
U.S. Value Stock Selection Process
Applying an Equity Investing Framework
  • Quantitative Screens
  • Price-to-book
  • Price-to-earnings
  • Dividend-Yield
  • Create Short list

10,000 US equities
Quantitative Screens
Short list
  • Qualitative Analysis
  • Bottom-up company review
  • Core competencies and competitive advantages
  • Industry position
  • Diversified Portfolio
  • Reduces risk
  • Manager monitors holdings

Diversified Mutual Fund
26
Hedge Fund Selection Process
Applying an Equity Investing Framework
  • Quantitative Screens
  • Understand drivers of returns
  • Assessment of risks
  • Consistency of results with stated strategy
  • Quantitative fit with overall portfolio

8,000 US and International hedge funds
Quantitative Screens
Short list
  • Qualitative Assessment
  • Bottom-up manager review
  • Core competencies and competitive advantages
  • Qualitative fit with overall portfolio
  • Nature and extent of risk controls
  • Diversified Portfolio
  • Reduces risk
  • Manager monitors holdings

Diversified Portfolio of Hedge Funds
27
Demands of Hedge Fund Investing
Applying an Equity Investing Framework
  • Successful hedge fund investing requires
  • Expertise in analyzing trading strategies as
    businesses
  • Entry and exit discipline
  • Time commitment
  • Sufficient size of investment to allow
    diversification
  • Need more than a single manager multi-strategy
  • Decide between
  • Self manage
  • Outsource
  • Custom portfolio
  • Funds of hedge funds
  • Combination

28
  • KCS Approach

29
Investment Strategy
KCS Approach
  • Based on
  • 10 years Hedge Fund Investing experience
  • AIMA Award-winning Research
  • Proprietary Analytics
  • Focus on risk reduction
  • Objectives
  • Low volatility
  • Low correlations with traditional assets
  • Tax-preferred deferred capital gains
  • Equity-like returns with bond-like volatility
  • Strategy
  • Levered low-volatility

30
HF Strategy Risk Profiles the ACRF
KCS Approach
31
Performance
  • 15.7 for 2006
  • Ranked 1 Fund of Funds in 2006 on
  • Canadian Hedge Watch

32
KCS ACR Fund Performance
33
  • Questions and comments?

34
  • This presentation is confidential. The contents
    are not to be reproduced or distributed to the
    public or the press. Securities legislation may
    prohibit such distribution. This presentation is
    a summary only and should be used in conjunction
    with the detailed information in the Confidential
    Offering Memorandum. The information contained
    in this presentation is believed to be reliable,
    but is not guaranteed as to its accuracy or
    completeness. This presentation is for
    information purposes only and does not constitute
    an offer to sell or a solicitation to buy the
    securities referred to herein. No securities
    commission or similar regulatory authority has
    reviewed this document or has in any way passed
    on the merits of the securities describe and any
    representation to the contrary is an offence.
  • Historical performance is not a guarantee future
    results. KCS Fund Strategies Inc. recommends
    consulting appropriate investment and financial
    advisors when considering any investment
    decision.
  • KCS Fund Strategies Inc.
  • 2150 555 West Hastings Street
  • Vancouver, British Columbia
  • V6B 4N6
  • Ph 604-730-0729 x 225
  • www.kcsfunds.com
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