Paul Singer Attacks Fed, China, “Leakers” In Q2 Letter

As hedge fund manager Paul Singer cracks down on who accesses Elliott Management’s quarterly investment letters, the manager of the $27 billion fund also wonders if those who managed a “radical monetary” program will similarly “allow” markets to decline in any serious way. In Elliott’s second quarter investment letter, reviewed by ValueWalk and first reported by the Wall Street Journal, Singer tackled many topics including market manipulation and hedging risk as a market “tear” approaches year seven of uninterrupted prosperity.

Paul Singer asks: Will “free markets” actually be “allowed” to decline?

As “free market” advocates in the western world wag a finger at China, lecturing them about market manipulation, are the Chinese, behind the scenes, wondering about U.S. market manipulation? This topic of U.S. manipulation is one Singer and others have previously addressed addressed in appropriately dulcet tones.

It is an odd world where the death of “free markets” just might be occurring with little discussion or notice on the topic, particularly as central bank quantitative manipulations, which Paul Singer and other insiders have previously addressed, receives scant attention. Controlled free markets, cats sleeping with dogs and “short sellers reportedly going long,” it all plays into a narrative.

Can a six year bull market continue “on a ‘nonstop’ tear?” In this environment Singer wonders if certain “all-in” long investors, some highly leveraged, really get it?  Hedge fund managers who actually “hedge,” as the nameplate indicates, are increasingly rare. It is true alpha, real skill, to outperform a consistently rising stock market with short hedges on or large piles of cash sitting on the sidelines.

Hedging is necessary, as Paul Singer considers a unique market environment:

With stocks and bonds trading at prices which are highly distorted by Quantitative Easing, Zero Interest Rate Policy and Negative Interest Rate Policy (QE, ZIRP and NIRP), profit margins at the top of their historical range, and pressures building from politicians and unions to increase the share of the economic pie going to labor, it is a particularly strange time for investors and traders to be reaching for yield while reducing their expenditure of money and effort on hedging and other risk-management measures. In any environment, the value of hedging strategies is an ongoing, live-fire experimental exercise, but if you do not even try to hedge, or you are steeped in fantasy about the world, then what chance do you have to avoid serious losses in the next “surprising” environment?

Such hedging strategies can be a drag on performance, but Elliott doesn’t let it show. Singer notes that the fund has outperformed equities every year from inception in 1977 to present, with a little lapse from June 1997 to March 2001. Getting underneath the statistics, a hint of a diversified portfolio construction is visible.

Unlike stocks, Elliott has delivered superior performance to stock market benchmarks but with only 1/3 the volatility – often a sign that noncorrelated portfolio mechanics are at work. Because ValueWalk does not have direct visibility into the Elliott portfolio, this cannot be confirmed. But looking at the surface performance statistics, what stands out most is an apparent deft set of noncorrelated portfolio construction skills.

Hedging and noncorrelated portfolio construction talent can be rather like a good defensive baseball player with a high on base percentage but a low home run total: very effective and appreciated by knowledgeable professionals, but rarely is such a player the most popular among fans. Paul Singer’s game, poetically described as “three yards and a cloud of dust” in American football parlance, is one of a baseline volley strategy in tennis. Don’t get flashy, win by looking for keen and highly select opportunity and above all, don’t let risk – such as constantly rushing the net – ruin a game plan built for the long run.

However, Singer appears to know his day will come. When the momentum changes direction, as has been a statistical reality throughout market history, those hedge fund managers who understand market mechanics, noncorrelation and the need for a little “crisis alpha” in a portfolio just might come out on top at this most critical point in time.

Paul Singer is among a handful of hedge fund managers who are known to live up to the “hedge” mandate in their moniker, and he appears as though he might be a little tired of this aspect of his investment management thesis not being properly recognized:

At this time when stocks are basically on a “nonstop” tear, we wonder if some institutional investors understand the potential impact on their long-term results of reducing their hedge fund allocations after criticizing the “underperformance” of those managers who actually hedge their portfolios. We believe there is no such thing as a permanent trend in the markets, just long periods of “outperformance” and “underperformance” of different trading styles and asset classes, so these investors may eventually regret their decisions to reduce or eliminate Hedge Funds from their mix.

Paul Singer looks at bond yields as a potential benchmark, calling the move to zero interest rates and below “an unjustified and unrepeatable trip to lifetime lows in yields.” But does this “unrepeatable trip” portend something else? Are their problems under the surface to which investors should be aware but have not been uncovered?

Paul Singer is not going to pound the table for lower yields, whose economic benefit is in question, “because of the possibility that some combination of the problems which are very visible (Greece and China), and/or issues which are currently hidden from view, may cause a new economic downturn.”

It is such an environment where “hedge” fund managers earn their keep.

Stephen Spruiell, a spokesperson for Elliott Management, did not respond to a request for comment.