The top hedge funds of the last 3 years are small and fly under the radar

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Name the top hedge funds. You probably said Berkshire Hathaway or maybe Bridgewater Associates. Casdin Capital or King Street Management probably didn’t come to mind.

But while investors fawned over Bridgewater’s 14.6% gain in 2018, more obscure managers of smaller funds — like Eli Casdin and Carlo Cannell — have produced returns 3-4X that of Ray Dalio over the last few years.

Academic studies have shown an inverse relationship between a hedge fund’s assets under management (AUM), and its performance. It’s no coincidence that Whale Rock Capital — #10 on the top hedge funds list below — quit accepting new capital in Dec. of 2017.  After a 40% return that year, Whale Rock’s AUM nearly doubled to $2.5 billion. Fund manager Alex Sacerdote determined that further capital inflows would hurt performance. Given a choice between big AUM and big performance, he chose the latter.

When it comes to hedge fund performance, small is better.

Why do smaller funds tend to outperform? A few possible reasons:

  • Smaller funds tend to invest in smaller stocks. For an astute manager, inefficiently priced, under-researched, illiquid small-caps offer more opportunity. As Peter Lynch said in One Up on Wall Street, “Big companies have small moves, small companies have big moves.”
  • As AUM grows, hedge funds encounter “capacity constraints” whereby strategies lose profitability due to the negative price impact of larger trades. A growing fund is forced to invest in ever more liquid – and less profitable — stocks.
  • Also, as AUM increases, the fund’s founder typically delegates more authority to other, potentially less talented, managers. According to this study, “as a result of hierarchy costs, the underperformance of large hedge funds is especially severe for hedge funds managed by multiple principals.”
  • And small fund managers tend to have more “skin in the game.” With significant personal wealth in the fund, a manager has more incentive to focus on portfolio returns (versus spending time raising capital and making money from steady management fees).

13F reports of the top hedge funds disclose the best ideas of the world’s greatest stockpickers.

The ranking of top hedge funds over the last three years is based on 13F filings data provided by WhaleWisdom.com.  13Fs are submitted quarterly to the SEC by all institutional investors with greater than $100 million in assets. By replicating or “cloning” the top hedge funds’ positions as they’re disclosed, an investor can profit from world-class stockpicking without paying world-class fees. Top hedge funds often charge 20-30% of profits on top of 2-3%% annual management fees. And many of the best performing funds aren’t even open to new money.

A benefit of studying 13F positions is that an investor can “clone” the long positions of top hedge funds, profiting from the moves of world-class managers, without paying world-class fees. Top hedge funds often charge 20-30% of profits on top of 2% annual management fees.

Notably, 13F’s don’t disclose short positions or many derivative positions. So, if a fund hedges by shorting equities, its 13F performance may be better or worse than the returns experienced by investors in the fund.

Below are the top hedge fund performers over the last three years based on 13F filings, with the following filters:

  • 10 > positions in portfolio
  • 13F assets > $100 million
  • average # quarters position held >2

Top performing hedge funds over the last 3 years (from WhaleWisdom.com):

FilerManagerCity3 Yr Perf AnnualizedHoldings MV Avg Time Held
CASDIN CAPITAL, LLCEli CasdinNew York, NY52.931 $   584,510,000 6.6774
KING STREET CAPITAL MANAGEMENT, L.P. O. Francis Biondi and Brian HigginsNew York, NY50.3923 $2,193,960,000 2.9565
HARBOURVEST PARTNERS LLCN/ABoston, MA50.3932 $   211,061,000 2.9063
GLYNN CAPITAL MANAGEMENT LLCJohn W. GlynnMenlo Park, CA4443 $   467,724,000 26.5349
CANNELL CAPITAL LLCJames Carlo CannellAlta, WY43.260 $   358,208,000 8.1833
ACUTA CAPITAL PARTNERS, LLCRichard LinBelmont, CA40.9921 $   131,116,000 6.7143
DRAGONEER INVESTMENT GROUP, LLCMarc StadSan Francisco, CA40.4625 $1,283,204,000 4.44
ARISTEIA CAPITAL LLCRobert Henry LynchGreenwich, CT40.2446 $1,506,360,000 4.7391
CORMORANT ASSET MANAGEMENT, LPBhua ChenBoston, MA38.7970 $1,231,704,000 4.7714
WHALE ROCK CAPITAL MANAGEMENT LLCAlex SacerdoteBoston, MA37.8129 $3,140,795,000 6.1724