San Francisco-based global macro hedge fund manager John H. Burbank III, the chief investment officer of $4.1 billion Passport Capital, says it’s been hard to “invest responsibly” in this market environment, especially for hedge funds.
Burbank notes that despite detiorating fundamentals in the economy and stretched valuations in the financial markets, asset prices have either remained elevated or gone up further.
Burbank recently gave a long, wide-ranging “Master Class” interview with fund manager Mark Yusko of Morgan Creek Capital that’s now available on Real Vision Television—a subscription financial news service.
Burbank, who profited from his 2007 bet against subprime housing, went into 2016 with the expectation that the market was going to fall. He was right—it did. The market was in a free-fall from January through mid-February.
Surprisingly, though, the market erased its losses and turned positive for the year in March after the Federal Reserve abandoned plans to raise interest rates. Meanwhile, China moved to stimulate, rather than reform its economy.
“I’ve been expecting this significant pullback because that’s what happens. It’s normal to have recessions,” Burbank told Real Vision, “A lot of retailers are telling you that. Profit margins have been falling in the S&P now, pretty steadily. But multiples, February to May, we had multiple expansion in many things with essentially declining earnings. It’s very hard to invest responsibly when that’s happening … particularly as a hedge fund.”
Burbank’s Passport, which had a strong 2015 when many funds suffered losses, has had a challenging 2016. The fund had been among the top performers at the beginning of the year with all three funds in the positive territory in January. Those gains were erased in the first quarter by what Burbank has already characterized as a "policy-induced rally."
Passport’s $2 billion global strategy fund was last down 6.22% through the end of May, while the $412 million special opportunities fund was down 1.48%, and the $1.1 billion long/short strategy fund was down 10.87%, according to performance data compiled by HSBC.
The sharp bounce in the market in the first quarter caught a lot of hedge funds off-guard. One of the challenges, particularly in macro investing, has been handicapping central bankers.
“The price signals that happened, the standard deviation move that happened in commodity stocks, were only analogous to ’03 and ’09,” Burbank said, “So either this was just because of this unannounced flip-flop. And in deflation, you need to short something worse that your long. And so, it caught everybody, the hedge fund world, or anyone responsible, flat-footed, so they all had to cover their shorts. Everyone shared this mark-to-market loss.”
He added: "I think I and a few other people were right and willing to be positioned that way but the thing is … China, for their own reasons, and the Fed, for their own reasons, are watching the same things and their threshold for pain is a lot lower than I expected so they said — China: ‘let’s pretend we don’t devalue our way through this.’ And [the Fed ] ‘let’s pretend we didn’t hike.’ It’s like we went back to July. And market regained its composure and equilibrium in a way that was shocking to me. But that’s the power of these two most extraordinary liquidity providers. They’re the most important countries and powers in the world.”
Julia La Roche is a finance reporter at Yahoo Finance.