Apr 25, 2019

Axios Markets

By Dion Rabouin
Dion Rabouin

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Situational awareness:

  • Deutsche Bank and Commerzbank ended merger talks, citing restructuring costs, execution risks and needing more capital as why the deal wouldn't work. (CNBC)
  • UBS reported a 27% year-over-year drop in net profit — better than what analysts expected — in what CEO Sergio Ermotti called a "challenging quarter." (CNBC)
  • Facebook announced it has set aside $3 billion to cover expected fines from the FTC, the largest in the organization's history, largely related to the Cambridge Analytica privacy scandal. (Axios)
  • The Bank of Canada dropped all references to future rate hikes and abandoned plans for higher interest rates at its latest policy meeting, while the Bank of Japan said for the first time "super low rates" would last another year. (Bloomberg)
1 big thing: The hedge fund moment is over

Illustration: Rebecca Zisser/Axios

Hedge funds are losing clients and money as they continue to deliver returns far worse than the broader stock market.

The big picture: Since the beginning of 2015, Americans' total financial assets have grown by nearly $11 trillion, Federal Reserve data shows, and less than 1% of that gain has been in hedge funds.

  • Aside from a select few managers who continue to generate inflows, hedge funds as a whole have been losing money — an average $5.4 billion of outflows per year since 2015, data from research firm eVestment shows.

"The industry has been struggling," Peter Laurelli, eVestment's global head of research tells Axios. "Since the end of 2015, quarterly flow has been negative in 10 of 14 quarters, including in each of the last four through Q1 2019."

What's happening: Last year the industry saw the fewest hedge funds launched since 2000, with the number of funds shutting down exceeding the number of launches in both Q3 and Q4, according to estimates from industry firm Hedge Fund Research. That happened even as closures declined.

Driving the news: There's a clear reason. The S&P 500 has outperformed the average hedge fund by more than 100% since 2009, according to an Axios analysis of eVestment's data.

  • Putting $100,000 in an S&P 500 index fund in 2009 with a fee of 10 basis points would yield $301,489 at the end of 2019's first quarter. That same $100,000 invested in a fund delivering the return average of hedge funds would yield $174,787.

Hedge fund managers also are eating away at their clients' money with expensive fees.

  • While fees for the average index fund have been fast approaching zero, with some firms even offering negative-fee products, hedge funds still charge an average of 1.45% management fees and 17% of returns for performance fees.
  • Yes, but: Some top hedge funds with market-beating records have been able to increase fees.

The bottom line: Plunging share prices and volatility late last year were heralded as a moment for hedge funds to shine, but instead the industry saw the highest outflows since the fourth quarter of 2016.

  • HFR President Kenneth J. Heinz, a strong backer of the industry, called 2018's performance "an industry milestone" and predicted a resurgence.
  • In a note to clients last month he changed his tune. "While investor risk appetite has returned in early 2019, the environment remains challenging."
Bonus: It's been a rough few years
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Data: eVestment; Chart: Andrew Witherspoon/Axios
  • Total U.S. financial assets rose from $75.25 trillion in the first quarter of 2015 to $85.02 trillion in the fourth quarter of 2018, according to the Fed.
  • U.S. retirement funds increased from $24.18 trillion to $27.06 trillion, between Q1 2015 and Q4 2018, Investment Company Institute data shows.
  • During that period, hedge funds have seen an increase from $3.10 trillion of AUM to $3.18 trillion, eVestment's data shows. That's due wholly to the gains in underlying assets as investors pulled a net $77.01 billion from the funds. Investors redeemed another $14.92 billion in the first quarter of 2019.
2. Corporate board changes come slowly or not at all

The boards of companies listed on the S&P 500 and Russell 3000 are staying about the same, despite repeated calls from shareholders for shake-ups, according to a new report from The Conference Board.

The big picture: Last year, 50% of companies in the Russell and 43% of companies in the S&P saw zero change to their corporate boards, a review of SEC filings showed. And in cases where boards did add a replacement or addition, it rarely affected more than one board seat. Just 25% of boards elected a first-time director who had never served on a public company board before, the report found.

Between the lines: Average director tenure is 10 years or longer, the Conference Board found, noting that board seats rarely become available and, when a spot does open it is rarely filled by a newcomer without prior board experience.

Reality check: Calls for change are also coming from inside of the companies themselves. PwC's 2018 corporate directors survey found that almost half of board members thought at least on person on the board should be replaced.

  • The stalemate in board membership also handicaps companies' efforts to improve gender and racial diversity as most current board members are white men.

What they're saying: Interestingly, the issue seems more entrenched at smaller firms.

  • “We see a tale of two cities," Justus O'Brien, CEO of Advisory Partners, said in the report. "Larger companies in the Fortune 500 and Fortune 1000 have focused on board refreshment and aligning the skills of the board to the company’s forward-looking strategy over the past five years. We see that many smaller companies lag behind in refreshment. Institutional investors will continue to pressure public boards to refresh their board compositions."
3. McDonald's next big acquisition: seniors

A McDonald's in the passengers' lounge of Humberto Delgado International Airport in Lisbon, Portugal. Photo: Horacio Villalobos-Corbis/Corbis via Getty Images

Market watchers will get their first look at the new high-tech McDonald's, fresh off its recent acquisitions of Dynamic Yield and Plexure, as it rolls out its earnings on Monday.

But the company announced another major push on Wednesday: hiring the elderly to fill its summer jobs.

What's happening: USA Today's Charisse Jones writes: "If you're looking for a gig in your golden years, you might want to check under the Golden Arches."

  • "The fast-food giant will post positions on AARP's online job board as it tries to fill roughly 250,000 jobs over the summer. McDonald's is also working with the AARP Foundation to launch a pilot program in five states that will help match lower-income older Americans with potential jobs."

Why now? The share of teens aged 16–19 who work summer jobs has fallen significantly since the turn of the century. Despite some recovery since the end of the Great Recession, a just 35% had a summer job in 2017, compared to more than half of teens who had one in 2000 and 58% in 1978, according to Pew Research.

  • That trend is moving in exactly the opposite direction for older workers whose labor force participation rate is expected to keep rising, with the fastest pickup happening in the oldest segments of the population, those 65 to 74 and 75 and older, the Bureau of Labor Statistics says.

What they're saying: Teenagers are nice, but "they're in school, or aren't always excited about working that 5 AM shift," Melissa Kersey, chief people officer for McDonald’s USA tells USA Today. "So we believe matching this mature workforce with the breakfast and lunch shift ... is really important."

4. "I hate the guy": Tesla short sellers pile on as stock tumbles
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Data: S3 Partners; Chart: Naema Ahmed/Axios

Tesla's stock has had an awful 2019, sinking more than 20% while the S&P has risen by nearly that much.

Driving the news: Tesla's first quarter results likely did little to interrupt that trend. The company announced a larger-than-expected $702 million loss, with revenue coming up short as well.

Quick take: The whole year already has been like Christmas for short sellers, many of whom have suffered considerable losses betting against CEO Elon Musk and Tesla over the years. For some of them, it's personal.

  • "I hate the guy," Mark Spiegel, founder of Stanphyl Capital, told me late last year. He's been short Tesla for years and said he added to his position after Musk's now infamous "funding secured" tweet.
  • (Musk feels just as strongly about Tesla short sellers and has lashed out at them repeatedly.)

What's happening: As 2019 has gone on, others have jumped on the bandwagon, bringing short interest in the company to more than $9 billion, according to data from S3 Partners. It's now the second most shorted company in their fund universe, behind Apple.

  • Musk's most recent promise to get 1 million self-driving Tesla robotaxis on the road by next year has been a particularly generous gift to short sellers. Tesla short sellers made $334 million in mark-to-market profits the 2 days following the announcement and are up $1.91 billion so far this year.

Watch this space: "There are no short squeezes on the horizon," says S3's Managing Director of Predictive Analytics Ihor Dusaniwsky, "and even more short sellers may enter the trades if they start sensing blood in the water."

Dion Rabouin