By Simon Kerr, Publisher of Hedge Fund Insight
The area of fixed income hedge funds generally and credit hedge funds specifically is ripe for a thorough examination in the longer form. For the longest time books on hedge fund strategies have been about global macro, equity hedge and activist managers.
As such “Investing in Credit Hedge Funds” by Putri Pascualy is well overdue. It is sub-titled “An In-Depth Guide to Building Your Portfolio and Profiting from the Credit Markets”, so it is clearly aimed at the client base of PAAMCO, Pascualy’s employers, that is at pension plans, endowments and insurance companies.
The opening chapter is a very good overview of why the opportunities in credit investing exist – the structural reasons for pricing inefficiencies and persistence of mis-valuation. These are the market-given anomalies that credit hedge fund managers are able to exploit.
Half of the 10-chapter book is devoted to sections on some of the major credit markets:
- HIGH-YIELD BONDS
- STRESSED / DISTRESSED MARKETS
- BANK LOANS
- CONVERTIBLE BONDS
- SOVEREIGN DEBT
Within each chapter on a credit market the author goes into the market characteristics – whether the market is cyclical, flow characteristics, and the impact of technical factors like the presence or absence of centralised pricing and quotations. These market characteristics give some sense of what investors in those markets have to bring to bear in terms of knowledge and resources and insights to succeed. Better yet, Pascualy gives explicit “Key Takeaways” on various aspects of the markets in each chapter, and “Key Questions” to ask the managers on their investment strategies. Those providing capital to credit hedge funds as institutional investors could use these chapters to join in the due diligence or research processes of funds of hedge funds or investment consultants to a competent level. However, use of the book could not replace PAAMCO or NEPC.
The obvious omission in terms of credit market coverage is the asset-backed market. The markets for instruments backed by credit card receivables, residential and commercial mortgages and aircraft leases are an order of magnitude more difficult to analyse and describe simply. But they are also a ready entry point for the target readership of this book. Every State Treasurer worth his position should know about John Paulson, John Burbank and Kyle Bass and how they benefitted from the collapse of the market for housing finance in the United States. Post 2009/10 the hedge fund industry is full of successful managers playing the recovery of the RMBS market, and the heads of alternatives at a wealth management firm or multi-family office will have heard pitches from them.
The rest of “Investing in Credit Hedge Funds”consists of chapters headed “Legal and Structuring”, “Operational Due Diligence Program”, “Risk Management” and “Financing”. They are all quite useful as a minimum, to help those new to some of these markets to understand why credit hedge fund managers do some of the things they do, and why those assessing those managers alight on specific areas of investigation. A reader of this book could then sit in a presentation by a manager of a distressed fund and appreciate some of the challenges of liquidity and valuation, for example.
Putri Pascualy’s book is well written. Given the topic areas it is relatively easy to read, and the shape and balance of the book are okay-to-good. It is however too dry for this reviewer’s taste. Whilst it is not overwhelmingly a story book like “The Big Short” or “The Greatest Trade Ever” there is an absence of personality either individual or corporate in the book. There is the name of one credit hedge fund in the index. One. There is not even a list of the largest or the best credit funds in any of the markets. There is one anecdote about a specific manager to illustrate a point. There should be lots more to help bring the book to life.
It is telling that the half the chapters are titled after securities markets. There are not chapters headed by the names of the investment strategies. There is not a chapter on long-short credit hedge funds, or credit arbitrage funds. End investors invest in hedge funds not markets. The managers of those funds typically invest in a series of investment strategies across spectrums of risk and liquidity, as their experience allows. This book puts across a vision of the hedge fund universe in fixed income occupied by funds in dedicated silos. And that is a large misconception in this book.
The sleeve of the hardback says that the book gives practical advice to construct a profitable credit portfolio while mitigating risks. It doesn’t because it does not address how to put funds together in a portfolio of hedge funds. It does not really lay out anywhere what the risk/return characteristics of the different strategies are. The credit markets are looked at in isolation. In reality institutional investors often take exposure to the strategies covered here and other strategies via multi-strategy relative value or arbitrage hedge funds. Those funds might invest in distressed assets and merger arbitrage. A lot of being a successful investor in hedge funds is about strategy allocation. This book majors on looking inside the box of how a credit hedge fund might operate, but not how to put the boxes together.
The second major omission is the absence of examples of risk reports or portfolio analysis of credit hedge funds. There is a chapter on risk management, but it does not contain any risk reports of an actual hedge fund portfolio or even a hypothetical one. That could be addressed by access to a webpage on the website of the publisher or author – some samples on pdfs or spreadsheets would be much appreciated. The consequence is the book covers investing in some types of securities, in some investment strategies, but does not cover portfolio management at the fund level or fund of funds level. It is a curious read – effectively giving by inference more appreciation for the analyst at a credit hedge fund than the portfolio manager.
Despite the caveats this book is a useful addition to a library of books on hedge funds. It is well formatted and the “Key Questions” and “Takeaways” are good tools for the target audience of investment professional in a private sector or public pension scheme and the like. It is a 7/10 as it is, and a second edition with a leavening of examples of real strategies by real credit funds should easily make it an 8 or more. On balance, at £10.87 on Amazon, it is terrific value and well worth a look.