Bank versus hedge fund?

Bank or hedge fund? Proprietary trading at a bank is different from at a hedge fund. Track records are rarely portable. Recently there have been several multibillion dollar startups by people with no experience of managing a hedge fund. Good traders no doubt, terrific "references" and "returns" provided by former employers eyeing future commissions. But investors would be better served if hedge fund neophytes learnt the business with smaller amounts as ALL good hedge fund managers did.

Currently in the news is a rookie manager that somehow raised over $3 billion on the back of "never having a losing year" while at a bank. Since the founder's past performance was ENTIRELY due to being at that bank, I suspect that now he is on the outside with no edge, he will lose most of it. Another "star trader" apparently produced $700 million "profits" for a bulge bracket firm. My due diligence found he was using $10 billion of bank capital so that is a "massive" 7% from all that transaction flow and customer information he won't have access to going forward. Deduct 2% and 20% and apply realistic external commission and leverage costs and there is not much left for clients.

Bank traders usually have access to flow data they would not see at a hedge fund. They often have first refusal on taking the other side of large customer trades, stock borrow locates and distressed asset sales. Stealing ideas, arbitrages and strategies and front-running orders never happens? What "commissions" and stock loan fees were they charged while at the bank? Same as an outside client? Leverage is basically an unknown; trades are backed by the balance sheet and credit rating NOT investor cash. Percentage returns can't be calculated; at best just the profits generated, a number which the trader AND former bank have a vested interest in making look "high". Often the performance adjusted for return on capital, return on leverage and return on risk is surprisingly poor.

A seasoned trader with a good street reputation and following leaving to set up their own hedge fund will lose many advantages and edges and be cut off from information channels that were often crucial to the PAST track record. Let them learn to run a hedge fund on their cash NOT yours. There will be plenty of time to get in later. And if they threaten to "close" to new investors it is even better since you can then ignore them and focus on superior hedge funds">hedge funds that ARE open and run by more experienced managers. And if they are so good why doesn't the former bank take all the AUM capacity?

by Veryan Allen. Copyright

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