Brummer & Partners: Strong returns from an unusual business

Photography: Dan Coleman

Patrik Brummer

No other large European group – Brummer & Partners manages nearly $ 15 billion at current rates – has managed it. But the Swede’s flagship $ 5 billion multi-strategy fund, like many other funds, has had a difficult year. Performance data seen by Financial News showed that was up a narrow 0.2% to the end of October. Speaking at his Scandi-chic offices overlooking a tram-lined street in central Stockholm, Brummer (pictured) said: “This year has not ended and we will see where we end up.” Brummer acknowledged how low returns and declining investor enthusiasm for hedge funds had hit the whole industry.

Regardless of the 2016 number, Brummer’s long-term record is strong. Annualised returns since launch of the flagship fund are 6.8% to the end of October, more than twice the returns of its benchmark HFRI Fund of Funds Index at 3.3%. This record is one reason Brummer was named one of the 100 most influential people in finance by FN in October.

Its performance data is not the only thing about Brummer & Partners that’s unusual. Its business model, its fee structure, its whole way of operating add up to a unique combination. It’s not just geographically separated from the London-centric European hedge fund industry, it’s mentally separated too.

“From the very start, it has always been about survival,” Brummer said. “We tried to build a diversified, sustainable mode where we maximise the probability to create risk-adjusted returns needed to be a long-term survivor in the business.”

Brummer left asset manager Alfred Berg in 1995 with the idea of creating a funds group, but the first step in 1996 was to create Zenit, a long-short manager that kick-started the Nordic hedge fund scene. Brummer himself was one of the fund managers for Zenit’s first decade.

Brummer & Partners now owns stakes – and places money with – 12 hedge fund managers. It takes an equity stake that varies in size but amounts to typically around 40%, in those hedge funds.

Brummer & Partners offers its partners risk control, fund administration, distribution and what Brummer said were “reasonably sticky assets”.

The returns of Brummer’s flagship fund are therefore not dependent on one, two or even a team of risk-takers, they are dependent on more than 40 individuals that manage those hedge funds. Brummer said: “If there is a single individual dominating the whole thing, it has a tendency to not being able to survive that single individual.”

“We are offering an absolute return culture, which is important and one of the reasons why people who do not have their origin in absolute returns, like banks and private equity, have not been that successful entering into the hedge fund business.”

It may look a bit like a twist on a fund of hedge funds operation – but it isn’t. And that’s clear when it comes to fees. Brummer and Partners is charged a 1% management fee and a 20% management fee by the hedge funds in which it invests – which it passes on to investors – but unlike funds of hedge funds does not add an extra layer of fees for its own investors.

Brummer said that his fee structure had attracted many investors that had become disillusioned with the traditional fund of hedge fund model after the global financial crisis; rivals that charge about 150 basis points more in fees would have to be so much smarter to leave the same returns on the table for clients. “Does that mean it is easy because you are a little bit more humble on fees and that even [our fee structure] will not be questioned? Of course not.”

• CEO builds an early warning system to protect returns

Even though Brummer & Partners employs a hands-off approach when it comes to the investment approach of the hedge fund it partners, there are situations when oversight is necessary.

Klaus Jäntti, its chief executive, has built a risk control system that allows him to monitor the individual funds in real time and get early warning signs when patterns emerge that are at odds with the hedge fund manager’s strategy.

Jäntti would then arrange a meeting with the hedge fund managers to find out why they were diverging from their usual strategy.

By taking stakes in managers – as opposed to a funds of funds approach which would simply place funds, it may look like Jäntti has created rigidity and could get locked into low performance.

It might seem a recipe for inflexibility and inertia – but Brummer takes the difficult decisions to protect returns when needed. Zenit may have been the nucleus from which Brummer & Partners was created but after a period of modest returns, Brummer redeemed from Zenit and the fund closed.

Brummer said in a matter of fact way: “Unfortunately, we were pessimistic about the team’s ability to create good risk-adjusted returns for the future.”

Protective of returns, Brummer & Partners has withdrawn its money from nine other funds. Equally, it continues to seek out talent – and invest in it. Over the summer, it invested in Talarium, an equity hedge fund, and decided to gradually increase its allocation to Arete, a global macro hedge fund focusing on China and the rest of Asia.

Its latest addition – getting an initial allocation of $ 270 million from the Brummer multi-strategy fund – is the California-based Black-And-White Capital, a hedge fund that can benefit from both rising and falling equity stock prices, and focuses on companies that are affected by technological innovation. The fund is managed by Seth Wunder who is well known to Brummer, having managed Manticore, another Brummer-backed fund.

Among the multi-strategy’s most high-profile funds are Lynx, which uses algorithms to trade instead of relying on human reasoning to pick stocks, and Nektar, a macro and fixed income relative value hedge fund. Brummer & Partners teamed up with these managers in 1998 and 2000, respectively.

Brummer said: “When we look at the composition of the teams, we want them to be reasonably uncorrelated and we do not want any long bias because we have been hating long bias from the beginning. People should not pay hedge fund fees for beta.”

In a world where hedge fund investments are becoming increasingly correlated, not just with each other but also with more traditional investments, Jäntti said the conversation needed to move on.

“The question investors are not asking, and the question I would like them to focus on at last, is that there is so much money in equity long-short hedge funds that has a persistent, systematic correlation to equities and that they are paying performance fees on that,” Jäntti said.

“That is a category that is managing, in general, far too much money and not in an intellectually honest way, charging performance fees for this exposure.”

A Goldman Sachs report in May illustrated the herd mentality. Industry consolidation since the crisis means the average hedge fund has got bigger – and big funds that are investing in equities can only invest in the largest, most liquid stocks. As a result it’s hard for them to diverge from index returns and a small number of investment ideas appear repeatedly in hedge fund portfolios.

The Goldman Sachs report showed that the average hedge fund held 68% of its long assets in its 10 largest positions at the end of 2015, making their portfolios the most concentrated on record. Performance data seen by Financial News showed that the Brummer Multi Strategy Fund had a correlation with broader equity and bond indices much lower than the industry norm.

Jäntti said this was one of the reasons why they “hate long biases” so much, and why instead the firm preferred hedge fund managers who were confident to take short positions, a riskier and more expensive investment strategy that would allow them to benefit from falling share prices.

This year has been a difficult one for hedge fund managers, starting with volatile markets in Asia, through the surprise Brexit vote and then the US election of Donald Trump.

Jäntti said Brummer & Partners received requests from many hedge fund managers to be part of the multi-strategy hedge fund, but one reason it was selective about growing its portfolio was that it wanted to retain a lack of correlation.

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