Wednesday, February 29, 2012

Dollars versus percentages, which to use?

In today's Financial Times, there's a front page article that provides a ranking of the top hedge fund managers, by the dollars in profit they've produced. It points out that Ray Dalio (Bridgewater Pure Alpha) has surpassed the legendary George Soros (Quantum Endowment Fund) for the number one slot.

LCH Investments, part of the Edmund de Rothschild group, did the rankings. LCH "assesses how much hedge funds have made over their lifetimes for investors in dollars. It argues that percentage returns distort performance as fund managers frequently find it hard to maintain big returns as they take in more money." Possibly LCH knows something the rest of us don't, but then again, perhaps not.

As reported in the article, Dalio's fund is the world's biggest with $72 billion. Does that not give him an unfair "leg up" on his competition, right from the start?  Don't get me wrong, the numbers are impressive. But, to discard the use of percentages as a ranking tool seems to be a mistake to me.

Individual investors do want to know how they've done, in both percentile (hopefully delivered using a money-weighted method) and dollar (or Euro, Pound, Yen, etc.) terms. But dollars themselves bias the results towards the larger funds.

There is no question that small managers can have significant results that cannot be replicated as their AUM (assets under management) grows, in both the hedge fund as well as long-only space. It does seem a bit odd when we see annual rankings (by percent) where an extremely small mutual fund, for example, may get top honors,  but only be managing a minimal amount, which was primarily invested in but a few exceptional stocks (probably a case of luck rather than skill).

To discount the value of returns, at least along with dollars, is unfortunate. But, if the intent of this ranking is solely to say "who has generated the highest lifetime profits," then this is probably okay. Performance, though, should always be percent driven. Thoughts?

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