Retirees would do well to remember that the investment world is full of BS—both in the Bachelor of Science, math-oriented sense of those letters and in the more usual sense too, even if Wall Street does a great job of disguising the hype component by shrouding it in an aura of mastery, mystery and smug self-assurance. With all signs now pointing to a rocky and volatile climate for investing for who knows how long, it’s vital that retirees sharpen their olfactory skills. They should be ready to give a smell test to all the advice they receive and examine their own firmly held beliefs, which often make fertile soil for investment-related magic beans.
I’ve always liked talking to people skilled at pointing out investment-related BS, and Simon Lack is a hype-buster extraordinaire. In his 2011 book, The Hedge Fund Mirage: The Illusion of Big Money and Why It’s Too Good to Be True, Lack, who had spent 23 years at JPMorgan and sat on its investment committee allocating over $1 billion to hedge fund managers, made the point that if all the money ever invested in hedge funds had been invested in T-bills, investors would have earned twice the returns! Voila, Wall Street’s emperors were naked, and no one could dispute his data.
“The book got me my 10 minutes of fame,” Lack laughed when I spoke with him recently, noting that while it received excellent press reviews, the book didn’t change behavior very much because investors continue to be fascinated by hedge funds’ cachet and potential for outperformance. While I can’t find any definitive proof of either aggregate hedge fund outperformance or underperformance in recent years, the results of several studies since Lack’s book was published are similar to findings about actively managed mutual fund performance: a small percentage of hedge funds outperform the market some of the time (but rarely the same ones), but most don’t outperform net of fees. In short, hedge fund investors face high hurdles and pay a high price for the hype.
What investors got wrong about hedge funds, Lack wrote in his book, was that success in their early days was due to the relatively obscurity of the discipline and the small number of hedge fund managers, some of whom were very talented. As the public became aware of the funds, Wall Street saw the potential to deliver what investors craved and created an infrastructure that encouraged the expansion of the hedge fund universe, thereby amply rewarding fund managers and themselves, but creating a bigger business that made it almost impossible to deliver what made hedge funds attractive in the first place. To paraphrase Walt Kelly of comic-strip Pogo fame, “Investors have met the enemy of hedge fund outperformance, and it is them.” The takeaway: Hype often wins.
Back to Lack. Today, he runs SL Advisors, an investment advisory firm he started in 2009. The firm manages investments in energy infrastructure—largely natural gas pipelines—through the Catalyst Energy Infrastructure Fund, the Pacer American Energy Independence ETF and separately managed accounts.
How did a hedge fund expert get involved in a niche area focusing on energy infrastructure?
“One of the funds I worked with had invested in a master limited partnership involved in energy pipelines,” he said. “I liked the idea that revenue was tied to volume flowing through a pipeline rather than the price of what was flowing through it, so I started investing in energy infrastructure, especially natural gas pipelines. When I left JPMorgan in 2009, friends asked me to manage accounts for them.”
Energy infrastructure’s steady—and likely increasing—revenue is a function of the nation’s ever-growing demand for electricity, which will only increase as the data farms behind the growth of artificial intelligence place enormous demands on the nation’s electrical grid and power generating capacity. Without using natural gas as a fuel, it will be virtually impossible to keep the lights and computers on all the time, said Lack, who believes his investments are an income-producing bond alternative at a time when he continues to be concerned about the country’s level of debt and the health of the bond market.
Those concerns were first expressed in his 2013 book, Bonds Are Not Forever. Since then, our nation’s public and private debt burden has only grown worse. In the book, he suggests looking for bond-like returns from something other than bonds. His solution involves master limited partnerships in the energy sector.
My idea here is not to push Lack’s investment thesis, but to share the thinking of someone who has cut through a lot of investment baloney over the years and who prompts questioning about one’s own ideas. We can all use more of that these days.
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