Altman Leads Hedge-Fund Managers Betting Rally Will LastKatherine Burton and Kelly Bit
Jeff Altman and John Paulson, two of last year’s best-performing hedge-fund managers, are predicting that stocks will continue their rally in 2014 even as the bull market approaches its sixth year.
They’re among a number of top money managers betting markets are robust enough to weather a gradual reduction in the pace of the Federal Reserve’s asset purchases as the central bank signaled it will keep interest rates at their current low for the foreseeable future, according to interviews with more than half a dozen investors. Stock selection will become more important because the broader U.S. market won’t repeat last year’s 30 percent rally, and it will get easier to profit by betting against selected companies, they say.
“The wind will continue to be at the markets’ backs with the Fed,” said Altman, head of the $3.2 billion Owl Creek Asset Management LP. He’s betting on telecommunications and aerospace companies, the same industries that helped him gain 49 percent last year, putting him in the Top 10 of Bloomberg’s annual hedge fund ranking.
That optimism about the markets mirrors increasing confidence among global investors in the economy, a separate poll of Bloomberg subscribers showed today. On the eve of the World Economic Forum’s annual meeting in Davos, Switzerland, 59 percent of those surveyed last week said the economic outlook is improving, up from 33 percent in November and the most optimistic result since the poll began in July 2009. More than half of respondents identified stocks as the asset of choice for 2014 as fears of bubbles eased.
Investing in stocks helped the top hedge-fund managers post double-digit returns last year, beating peers that on average remained too risk-averse. Hedge funds climbed 7.4 percent in 2013, their worst performance relative to stocks since the 2008 financial crisis. As the pace of the stock rally is expected to slow, many of last year’s most successful managers are sticking to their playbooks, arguing broad trends will be similar.
Paulson, who runs the $20 billion Paulson & Co., said one reason to be optimistic about equities is that the economy is just in the middle of its current growth cycle. His Recovery Fund, which buys stakes in companies that he expects to profit from an improving economy, climbed 63 percent last year. His Recovery Fund was No. 3 in Bloomberg’s ranking.
“The U.S. economy hasn’t taken off. It’s doing OK,” Paulson said in an interview in November in his Manhattan offices. “I’m hopeful that growth will pick up -- we are somewhere in the middle of the cycle.”
John Burbank, head of the $3.2 billion San Francisco-based Passport Capital LLC, forecasts that last year’s broad trends will remain intact in 2014. He predicts stocks will see a drop in the first half of the year before they climb higher.
“It’s a continuation of what we saw last year,” said Burbank, whose global fund returned an estimated 23 percent last year, according to investors. “Equities will do better than credit, developed markets will do better than emerging markets, the dollar will rally and interest rates will rise.”
Last year, emerging market stocks, as measured by the Morgan Stanley Emerging Markets Index, fell 5 percent. The MSCI World Index of developed markets gained 24 percent and the Standard & Poor’s 500 Index of U.S. stocks rose 30 percent. The dollar climbed against the yen, the Australian dollar, the Brazilian real and the Indian rupee, among others. Yields on the 10-year U.S. Treasury rose to 3.02 percent from 1.78 percent at the start of the year. The $237 billion Pimco Total Return Fund, the largest fixed-income mutual fund, fell 1.9 percent.
The current rally in U.S. stocks has lasted four years and 10 months, just two months shy of the previous bull market, which extended from 2002 to 2007, according to data compiled by Bloomberg. It has already lasted nine months longer than the average rally going back to the 1960s, according to research firm Birinyi Associates Inc., even as gains in prices last year weren’t backed up by a commensurate increase in earnings. The price-to-earnings ratio of the S&P 500 gained 23 percent last year, while corporate profits climbed 5.1 percent.
“This time last year I was certain it would be a good year,” said Craig Effron, co-founder of Scoggin LLC, whose $1.4 billion main fund climbed 25 percent in 2013. This year he’s less sure. “It’s highly unusual not to have a painful period.”
He sees signs of complacency in the markets. The VIX index, a gauge of expected volatility, is now trading at 12, down from an average of about 14 last year.
“We are still net long, but it scares me. There will be a period when it gets ugly,” he said, adding that any declines will create opportunities. “It’s the proverbial stock-pickers’ market.”
For the same reason, some managers expect to make money this year by betting against selected companies. Jacob Gottlieb, founder of New York-based Visium Asset Management LP, said shorting stocks, which is always difficult in a roaring bull market, will get easier because the market’s climb won’t be as dramatic.
“It’s more about stock selection and less about market direction,” he said. Visium’s global fund returned 17 percent last year and assets in that fund jumped by more than $1 billion to $1.5 billion.
John Thaler, whose $2.2 billion JAT Capital returned 31 percent last year, agrees.
“It’s hard for the short selling to be any worse than in 2013,” said Thaler, who is expecting the broad stock market to remain strong this year.
Last year, his investments were 30 percent net long, much more conservative than many of his peers, according to an investor. About 130 percent of his money was on stocks Thaler expected to rise and 100 percent on shares he was betting would fall. Last year, JAT’s longs were up 80 percent and his shorts were down 40 percent, said the investor, who asked not to be named because the fund is private.
Thaler is betting on rising prices for shares of cable companies such as Time Warner Cable Inc., which is offering new services that allow customers to access Internet content through their televisions, which should help attract new subscribers.
He also likes channels such as those run by Madison Square Garden Co. and Twenty-First Century Fox Inc. that people still watch in real time. These media outlets should be able to get higher ad revenues than other channels where viewers record programs or get shows on demand -- instances where advertising spots don’t exist or can be easily skipped.
Catherine Jones, a spokeswoman for JAT, declined to comment on the fund’s performance or on market positions.
Until 2013, managers could make money being long credit, and that kept people from putting money in stocks, said Burbank. Some of last year’s gain came from money switching into equities, and he expects that to continue, even as he predicts economic growth will be lackluster.
He’s focusing on companies with innovative technology both in the U.S. and in China, including SouFun Holdings Ltd., which runs China’s biggest real-estate information website; online retailer Vipshop Holdings Ltd.; and Qihoo 360 Technology Co., China’s second-largest search engine.
One thing that Burbank doesn’t expect to be the same is oil, which he forecasts will fall this year. Passport is avoiding oil services companies as well as those that do exploration and production. He expects to eventually short oil, which is currently trading at $94 a barrel, down from around $110 in September. He said he may also wager eventually on falling prices of steel, iron ore and copper.
As for bonds, Michael Pohly, who runs $750 million at Kingdon Capital Management LLC, also expects many similarities between this year and last. The default rate will remain low, yields on the 10-year Treasury will rise by 50 to 75 basis points and credit spreads will tighten, although less than in 2013, he said. A basis point is 0.01 percentage point. Convertible bonds will be the top-performing segment of the credit markets, Pohly predicts.
His stand-alone credit hedge fund returned 16 percent last year, according to an investor update. The equity fund of the $2.5 billion Kingdon climbed 23 percent.
Just as Passport’s Burbank and Scoggin’s Effron expect that stocks won’t climb in a straight line this year, Pohly is forecasting greater volatility in the bond market.
“Last year was atypical in terms of a lack of a meaningful correction,” he said. “I would expect that we will see more volatility in the markets this year, and they can be magnified due to lower levels of liquidity.”