Peer into the Future of Hedge Fund Evaluation:
Send in the Clones
The very thing that makes hedge funds attractive makes them impossible to group together. Hedge funds are unique. That’s their main attraction. The definition of unique is “without peers,” so we cannot group unique. For example, grouping long-short managers into a peer group is absurd because each manager has his own unique approach long and his own unique approach short. A manager can be long value and short growth, or long technology and short utilities; he can use leverage, derivatives, etc. You can confirm the absurdity by calculating the cross-correlations of managers in a hedge fund peer group. You’ll find that performance correlations are very low, confirming that these so-called peers are not at all alike.
It’s this uniqueness that will lead us in the future to the science of hypothesis testing and the simulation power of cyberclones. No one wants or needs to pay for complex betas, but everyone is willing to pay for that critical factor they can’t engineer on their own, namely superior human intelligence and wisdom that engender profitable decisions.