The Skorina Letter No. 11

The Skorina Letter
People and Issues in Global Investment Management
March 23, 2010

In This Issue:

• My Breakfast with Dave: A Non-Normal Recovery
• Comings and Goings

My Breakfast With Dave:

David Rosenberg, chief economist for Gluskin Sheff in Toronto, gets up early every morning to decipher the latest economic and market data. The astringent note he published last Wednesday didn't do much to sweeten my oatmeal.

If you're an institutional investor who's looking for a New Normal, you should pay attention.

He says:

Remember, the equity market at any given moment of time is one part reality and three parts perception.

Our friend, Brian Belski at Oppenheimer was on CNBC the other day and claimed that this was turning into a normal economic recovery. And that is what many market participants seem to believe until they don't believe it any more. Their resolve has been impressive. But if this were a normal cycle, then:

Employment would already be at a new high, not 8.4 million shy of the old peak.

The level of real GDP would already be at a new cycle high, not almost 2% below the old peak.

Consumer confidence would be closer to 100 than 50.

Bank credit would be expanding at a 14% annual rate, not contracting by that pace.

The Fed would certainly not have a $2.3 trillion balance sheet.

And, the government deficit would not be running in excess of 10% of GDP or twice the ration that FDR ever dared to run in the 1930s.

If this were a normal cycle, then there would be a 'clean' 5 - 6 months' supply of homes on the market, not the 21 months overhanging as is the case now when all the shadow inventory is included from the foreclosure pipeline.

If this were a normal cycle, the funds rate would not be near zero and one in six Americans would not be either unemployed or underemployed.

If this were a normal cycle, then mortgage applications for new home purchases would not be down 13.9% year-over-year (just reported for the week of March 12) on top of the already depressing 29.4% detonating trend of a year ago.

But the perception that this is turning out to be a normal sustainable expansion is strong and pervasive, although the reality is that this is just a brief statistical bounce aided and abetted by unprecedented government bailouts and intervention.

While we are inundated with that old refrain about "not fighting the tape", in our view, this is just a glib excuse to stay long the market because of the herd effect, and to be honest, we heard that same trite rhetoric over and over again back in the spring and summer of 2007.

...This is not the story that a 'live in the moment' investor may want to hear today, but even as the market lurches forward, the economic outlook is more uncertain than is commonly perceived and we believe investors are taking on too much risk to be overweight equities at this time. The primary trend towards consumer frugality, liquidity preference and deflation has not vanished just because of the impressive bear market rally in risk assets that has occurred over the course of the past year.

[You can sign up for Mr. Rosenberg's daily briefing here: http://gluskinsheff.com]

Looking back, we see that he was similarly skeptical of the market rally last summer. After the S&P rose 15% in the second quarter of 2009, and the Dow hit 9000 in July, he grumped: "Too much growth - and hope - is priced in at this point...Hence our call for a sputtering stock market through year-end."

http://blogs.reuters.com/commentaries/2009/07/23/stock-market-bulldozes-the-bears/

In fact, the market didn't "sputter" through year-end; it rose another 16% to close the year at almost 10,500.

Such are the hazards of prophecy. But was he really wrong? Or was he just right too soon?

It's not hard to find cheerier views from some credible analysts.

For instance: back in November, David Ranson at H.C. Wainwright Economics said that fourth-quarter GDP would rock, and he was right. Now (per Dow Jones MarketWatch on March 18) he's looking for near-future growth "even stronger than 5.9%". He's impressed by the narrowing of credit spreads and what he sees as the willingness of consumers to take on more risk by butting big-ticket consumer-durables.

But it's still hard to resist Mr. Rosenberg's bullet points about the non-normalcy of this cycle, even if stocks continue to levitate in the near-term. As he points out, what's holding them up isn't easy to discern. Pointing to historical precedent to adduce a v-shaped recovery isn't very comforting when you're in such unprecedented times. The stunningly-high U.S. federal deficits alone - and the higher taxes they portend - should be keeping any long-term investor up at night.

I know, we're all sophisticated asset-allocators and risk-managers now, and we're sure that all our correlations won't go to 1. Even if they recently did. And managers of long-term institutional money, from what I'm seeing, are certainly not over-weight in equities. And they're probably not the "live in the moment" investors that David Rosenberg is talking about.

Endowments are not going back to the equity-heavy portfolios of yore. They are sticking to the "endowment model," and doubling down on attractively-priced alternatives, especially private equity. And, increasingly, the big pension funds are trying to get their gigantic ships turned slowly into the same general direction. (We'll have more to say about this in the next letter.)

But if you know any of those "in the moment" guys you really should sign them up for Dave's morning letter. Nothing like a little cold reality to start your day.

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Comings and Goings:

Chris Conkey is the new CIO - Global Equities at MFC Global Investment Management in Boston (part of Manulife Financial). I'm glad to see Chris back in the game. He left Evergreen Investment Management back in 2007 when it was still part of the now-defunct Wachovia Corporation. Mark Schmeer, who previously had the CIO-GE title, stays aboard as CIO - Asset Allocations. MFC Global, with $287 billion AUM, manages both institutional and retail money, and I note that they managed to secure $6 billion in new institutional mandates last year, despite the global turmoil.

When I emailed Chris to wish him good luck the other day he told me he feels that MFC is now positioned to become a much bigger global player.

On the left coast, the University of Southern California said goodbye to their treasurer and senior investment officer, Ruth Wernig, as she headed north on the Harbor Freeway to her new job as CIO of the $3.2 billion California Endowment. The endowment was gifted with $4 billion extracted from health-insurer BlueCross of California when it converted to for-profit status, and acts as a grant maker to community-based healthcare groups.

The Skorina Letter No. 10

The Skorina Letter
People and issues in Global Investment Management
March 8, 2010

In this issue:

• Comings and Goings
• Hedge funds are still OK
• Two CIOs speak their mind
• Where's the money?

Comings and Goings:

A while back we noted the quiet departure of Josh Kaplan from Drexel University in Philadelphia. He was hired with trumpet-flourishes in 2007 as their first-ever CIO. But when their interim president announced the not-bad 2009 endowment results he thanked long-time CFO Thomas Elzey and omitted any mention of the departed Mr. Kaplan, who had allegedly been running the shop.

We can now close the loop on that one. Mr. Kaplan just surfaced with a new job at Ascension Health in St. Louis as senior director of investments.

In the same week, Drexel hired Catherine Budd Ulozas to replace Mr. Kaplan, although she will not be given the CIO title. She will be director of investments and will be "working with" Mr. Elzey to oversee Drexel's $451 million endowment. Ms. Ulozas was recruited from banking firm ING Direct in Wilmington.

****

University of Florida just announced that their first CIO, Michael D. Smith, is leaving to become a partner at Global Endowment Management LP, which offers outsourced investment-office services to nonprofits. The UF endowment was down 19.2% for fiscal 2009, to $1.01 billion. But the school in its press release lauded Mr. Smith's six-year track record and warmly wished him well in his new position.

****

In chilly upstate New York, the departure of James Walsh, Cornell University's CIO since 2006, seemed a trifle less warm. Cornell, heavily dependent on its endowment to fund operations, lost $1 billion in fiscal 2009 -- about 25% -- and has faced some painful cutbacks. Mr. Walsh, who had been recruited from Hermes Investment Management in London, will be returning to the UK. On his watch Mr. Walsh ramped up the investment office substantially, from 17 to 25 staffers.

****

Finally, up in the Great White North, just as they were firing up the Olympic Zambonis in Vancouver, University of Toronto announced that the functions of UTAMCO, the University's asset management company, were being folded back into the treasurer's office. UTAMCO contributes only 5% to UT's expenses, but payments to the university budget had to be suspended at one point because of liquidity problems.

The Globe and Mail harrumphed that this "foray into aggressive U.S.-style investing is coming to an end following a decade of disappointing returns and a $1.5 billion loss that wiped out nearly 30 per cent of the school's pension and endowment funds in a single year."

In 2000 UTAMCO became the first standalone money-management firm associated with a Canadian university. University of British Columbia was the second one, and so far seems to be sticking with its decision.

Hedge funds and private equity (23% and 16% of the portfolio, respectively) were singled out in a critical report as the "U.S.-style" villains, although UT also made bad bets on the strength of the Canadian dollar.

UT president David Naylor said that UTAMCO's leader will now work under the direct supervision of the school president. Other reports say that William W. Moriarty, the current CEO of UTAMCO, has been invited to become CIO within the school administration.

Mr. Moriarty was recruited in 2008 from RBC Capital Markets, the investment banking arm of Royal Bank of Canada. His predecessor at UTAMCO, Felix Chee, then became an advisor to China's sovereign fund, the $200 billion China Investment Corporation.

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Endowments Still Heart Hedgies:

NACUBO (National Association of College and University Business Officers) has finally released its endowment study for the fiscal year ending June 2009. The report (now co-authored by Commonfund) was unveiled on January 30 at a New York conference keynoted by Dr. David Swenson, architect of the now slightly-less-shiny Yale Endowment Model.

That stomach-churning and (they hope) unique year drew so much attention to the endowment world that NACUBO issued an early-bird version of the report back in December, which we mentioned previously.

Now that we have a good, clear look into the rear-view mirror, does it reveal anything that an informed observer didn't already know? More important: what does it portend for the future that anyone can still do anything about? The endowments still hold over $300 billion and are among the largest investors in alternative assets. How they react to this experience will have major consequences for alternatives managers worldwide.

Well, the losses have now been precisely calculated: the 842 institutions responding racked up average declines of 18.7% in FY 2009. That's a little less dire than might have been inferred from last fall's headlines when Harvard had lost 27.3% and the construction cranes stood idle on the banks of the Charles. Dr. Swenson's own Yale endowment lost an only slightly-less-abysmal 24.6%. As the report details, mid-size and smaller endowments with less volatile portfolios generally had smaller losses than the marquee-name institutions. Overall, the endowment CIOs are now looking at what their colleagues over in the athletic departments call a "rebuilding year." Or three, or four.

Institutions surveyed lost, on average, 22.5% just in the awful first quarter alone (July 2008 to Nov 2008). That means that most of them participated in the nascent market recovery, trimming their losses to just 19% by the end of the fiscal.

When the dust cleared at the end of June the percentage of alternative assets in large (over $1 billion) endowment portfolios stood at 61%, a new high, and up from 52% in FY 2008. But this can't be interpreted as just more love for the category. We know that a lot of those big endowments found themselves embarrassingly illiquid due to lock-ups (or capital calls) from those same alternative managers, and had to raise cash by selling liquid stocks and bonds and thereby nudging up alternatives as a percentage of AUM.

Still, looking at the longer-term trend among endowments of all sizes, the allocation to alternatives has risen remarkably, from 11% just six years ago to 51% as of June. And, despite pangs of buyer's remorse among a few hard-hit institutions, there is no reason to think that the trend is reversing.

Cambridge Associates' hedge-fund honcho, David Shukis, speaking to reporters at the NACUBO conference, said that most hedge-fund withdrawals were by private investors such as family offices. But for the most part, he said, long-term institutional investors such as endowments maintained their commitment to hedges. That doesn't mean they were happy, however. Mr. Shukis noted that his clients expected - demanded - improvements in transparency and fee structure, with more flexible lockups. But the 2/20 fee standard still hasn't crumbled.

For instance, Ralph Alvarez of Florida State University (with a $400 million endowment) reported at the same conference that "We tried to negotiate fees but we found the quality of managers we invested in would not negotiate."

Mr. Shukis emphasized that the smaller hedges are still in the game. "We are still actively looking for newer managers and exploring ways investors can diversify their portfolios." He noted that smaller managers "are dedicated to succeed and can participate in smaller transactions. There are opportunities out there but people need to be selective. He said that Cambridge prefers to see a year or more of performance from new managers, although performance numbers are only part of their due diligence, which includes a multitude of qualitative factors as well.

Parts of the NACUBO/Commonfund report are available to the public.

See:

http://www.nacubo.org/Research/NACUBO_Endowment_Study/Public_NCSE_Tables_.html

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CIO Viewpoints: Lou Morrell of Wake Forest and Sally Staley of Case Western Reserve:

According to Lou Morrell, the former CIO of Wake Forest University, the "endowment model" is not dead, but CIOs must have greater freedom to react to events. And in the future, successful CIOs will spend more time managing the money as well as the process.

In an article in FundFire (a Financial Times property) on February 25, Lou points out that as universities rely more heavily than ever on high returns from their investment portfolios, they have to be more focused on the issue of liquidity. The timing and severity of the 2008 meltdown could not have been predicted, but the lack of portfolio liquidity made the problems for colleges and other institutions far more severe than should have been. And it's important that they learn the right lessons from the experience.

Endowment and foundation portfolios "should be global in nature and include asset classes such as commodities and currencies. It should also have an opportunistic tactical component that is dynamic in nature and allows for dealing with volatility and extreme events while enabling the fund to optimize its return potential."

Lou has a track record that should command attention. He joined Wake Forest as CIO in 1995 and formally retired in 2009, but still runs a $300 million tactical sub-fund for them until June 2010. Over his ten-year span he delivered an annualized return of over 11%, handsomely beating the S&P and the MSCI.

Lou, who stuck to equities, long-only mutual funds and index ETFs in his sub-fund, had the liquidity needed to meet all of the endowment's spending commitments when the storm hit last year.

Lou will have more to say on this subject at the Terrapinn Asset Allocation Summit in New York on May 17-18.

See: http://www.terrapinn.com/2010/aasusa/


****

I had a chat last week with Sally Staley, CIO of Case Western Reserve University in Cleveland, who seems to be on the same page as Lou Morrell regarding liquidity and maintaining close day-to-day tactical flexibility in managing her endowment pool.

Ms. Staley and her team were honored by Institutional Investor magazine as "Large Endowment of the Year for 2009."

The award noted that Case stayed significantly underweight to equities and built cash position to bolster liquidity

Ms. Staley's team also developed a cutting-edge proprietary system that provides an almost-real-time view of the asset allocation, including the risk versus benchmarks and the daily cash position.

Case's 19% decline in the last fiscal year was better than many of their peer institutions, and they avoided most of the liquidity problems that mauled the Ivys. It also helped that Case only draws about 10% of its budget from the endowment and didn't have to face dramatic spending cuts. The endowment now stands at $1.5 billion as of 2009 year-end, compared to $1.4 billion in 2008. That's an 8 percent increase calendar-year to calendar-year, and a very respectable win after last year's vertiginous drop.

I asked her how she did it.

She said, "First, of course, I work with the investment committee to set the policy statement, allocations, and spending policy. But on a day-to-day basis I've been given considerable discretion about how to meet my goals."

"About five years ago I hired a risk manager who built detailed data management capabilities and helps us understand all the "what ifs" under various scenarios."

"The joke was that I wrote a terrible job description," Sally said, "but I said that I would know what I wanted when I saw it. Fortunately, the individual we hired knew what we wanted and convinced me that he was the man for the job. Once I interviewed him, I agreed. Along with that hire we built internal data capabilities to report on an almost real time basis on our allocations by asset classes, managers, holdings, liquidity windows, exit notices and, of course, performance data. As a result, we can see where we stand on a daily basis and have a relatively clear picture of what we can do and how fast we can do it."

Finally, they are improving their in-house investment capabilities, so that they don't have to depend solely on the performance of outside funds and managers. They have direct relationships with certain markets and can take steps to hedge and optimize some risk/return strategies.

"Here's one example," she said: "Our staff looked at the performance of our long-only managers and determined that, in one case, we could replace the manager with a structured product which would give us far more upside potential with no more downside risk."

Long term, Sally, like many investment managers these days, has a whole new respect for long-tail risks: the dreaded Black Swans. She emphasizes better management of volatility; the need for a larger liquidity cushion. And, of course, Rule One: Don't Lose The Money.

"It's clear that "equity beta" hit us hard in the downturn," she said. "So, we have to consider what investments and capabilities we should have going forward if this turns out to be only the beginning of the roller-coaster ride. We are taking a hard look at all investment options on a global basis. Currencies, options, structured products."

"My day starts with one thought." she concluded. "I can always do better".

And, if you're in Rio next month, you can catch Sally when she presents at the Brazil Investment Summit, a hot event for all of you readers focused on the BRIC sector.

See: http://www.terrapinn.com/2010/bis/SPK-ms-sallyj-STALEY.stm

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Recent Reports and White Papers That Are Worth a Look:

Carbon 360 LLC has issued Capital Introduction Trends 2010, which surveyed third-party marketers about where they expect to find hedge fund money.

The report opined that institutional investors would be more receptive to newer managers, that fee structures would remain stable, and that more money would be moving from foreign investors into the U.S. The European share of investment money will be large, but probably declining relative to the rising Asian share.

80% of respondents expected to obtain funds from institutional investors. 67% were looking to family offices and/or pension funds. 58% expected to do business with funds of funds. Only 21% thought they would be selling to wealthy individuals.

Geographically, Europe was expected to be the major funding source by 60% of respondents, closely followed by North America. Only 12% were looking to Asia, although the share of Asian money was up from previous surveys.

The full report is available here:

https://www.carbon360.com/viewdocument?documentID=7385

****

Casey Quirk, the Connecticut-based consulting firm, issued their Consultant Search Forecast 2010 (co-authored with eVestment Alliance). It surveys 70 pension and endowment consultants, the gatekeepers who find and vet outside investment managers for institutional investors.

The good news is: more money for everybody -- both traditional asset classes and hedge funds. "Investment consultants expect North American institutional investors to award nearly $430 billion in mandates to asset managers during 2010, up 13% over 2009.

The good/bad news: increased turnover in consultants means that more of the managers they presented to institutions will be fired. But others will have to be hired to replace them.

Other findings:

Even though we keep hearing that inflation is a dead issue, 80% of respondents think that inflation-protection will be a key theme for investors.

80% also expect strong search activity for hedges; only 50% see equal interest in private equity or real estate.

70% of respondents see a shift toward fund of funds vehicles versus direct investment in hedge funds or private equity.

The entire study is here:

http://www.caseyquirk.com/docs/research_insight/Casey%20Quirk%20eA%20Consultant%20Survey%202010.pdf

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Parting Shot: Hedge Funds! Is There Anything They Can't Do?

The extraordinary power wielded by these sinister entities continues to surprise even sophisticates like us.

Item: In Greece, according to newspaper reports, the government has sicced their intelligence service on foreign hedge funds. EYP (the Greek version of the CIA) is hunting down hedgies who may have been aggressive sellers of Greek bonds or speculators in related credit default swaps. The press and the government are pretty sure that these foreign devils are behind all their troubles.

The Wall Street Journal last week reported that, "Greece was the principal author of its own debt problems, "with a lot of help from their EU colleagues who "turned a blind eye to its flouting of financial rules" But they're probably in the pay of the anti-Greek conspirators.

We hope the Greek James Bonds are only licensed to divert blame, but we wish them luck.

See: http://www.reuters.com/article/idUSLDE61I24520100219

The Skorina Letter No. 9

The Skorina Letter
People and issues in Global Investment Management
February 10, 2010

In this issue:

• Pay investment committees
• Hedge funds for everyone
• India versus China

More Work, More Pay: Compensation for Investment Committees?

Chris Bittman, former CIO of the University of Colorado endowment, and now at Perella Weinberg Partners as CIO of their Agility Funds unit, made some interesting off-the-cuff remarks the other day at an investment conference.

He thinks that the workload and responsibility carried by investment committee members justifies paying them for their work, even though nonprofit board members traditionally serve without compensation. It would be a break from tradition, but Chris told me that "the feeling of obligation increases when the stakes are raised and others are keeping score."

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More Alpha, Less Pay: hedge fund indexing, it's coming!

I have a question about hedge fund indexing and performance-replication strategies that nobody has answered to my satisfaction. If, as some people suggest, an investor can now get most of the advantages of actively-managed alpha investing by buying hedge-clone mutual funds, ETFs, etc; then why shouldn't an institution buy these, instead of paying substantial fees to traditional hedge fund managers?

The Wall Street Journal recently reported that the number of new hedge-fund-like long-short mutual funds launched in 2009 nearly doubled to 26, from 14 a year earlier. Investors poured $8.7 billion into these funds in the first 11 months of this year, up from $4.6 billion in all of 2008.

Cliff Asness and his team of quants at AQR Asset Management have been in the forefront of this trend. Their AQR Diversified Arbitrage Fund, launched in January 2009, gained about 9% in its first year. They launched their seventh hedge-style mutual fund just last month: AQR Managed Futures Strategy Fund.

The Journal noted that other traditional hedge managers including Rady, Bull Path and Legg Mason's Permal Group have all launched mutual funds over the past year. They quoted AQR co-founder David Kabiller as saying that attracting small individual investors as well as institutions to the same vehicle "builds a more stable business."

Hedge funds began as a vehicle aimed at and sold to only a restricted group of institutions and affluent individuals, but we see more and more indications that hedge funds or hedge fund-like products are being marketed to ordinary "retail" investors.

FinAlternatives.com reported last week that a young lawyer named Sarah Bernett is doing just that.

"Bernett, a litigator with seven years experience, last year founded a hedge fund advisory, Bernett Capital Management. On Jan. 1, she founded a hedge fund of her own, catering to low- and middle-income individuals with an "unprecedented minimum investment of $1,000."

Meanwhile, Morningstar reported last month that Vanguard has taken another step toward offering an "absolute return" fund, more than two years after Morningstar first reported that they were experimenting with such a product.

To me, this seems reminiscent of earlier Darwinian developments in the marketing of financial products: checking accounts and revolving-balance credit cards, then mutual funds dovetailing with the creation of IRAs and 401Ks, bringing stock ownership to the masses.

So, maybe we're seeing another move in an old game. And, again, my question is: if the masses can now put money into so-called "alternatives," then how does that affect the traditional buyers of those vehicles: the institutions, affluent individuals, and family offices? And what are the implications for hedge funds?

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China versus India: Two Sides of the Asian Looking-Glass

Today, China's GDP is still only a little bigger than Germany's; and India's economy is about the size of Brazil's, according to a Carnegie Endowment study.

http://www.carnegieendowment.org/publications/index.cfm?fa=view&id=24195

But that's today. The magic of compounding Asian growth-rates will make our children's world look very different from ours. In 2040, if trends hold, China will slide past the USA, with a $45 trillion GDP versus our $40 trillion and India will be earning "only" about $18 trillion. Everybody else will be far back in the pack.

In the next few newsletters we thought we would look at India and China through the eyes of some boots-on-the-ground investors who know the region intimately.

We have asked Chuck Johnson of Tano Capital, an early investor in the sub-continent, to be our India anchor and Bill Lawton and Doug Metcalf of Seagate Global Investors, who spend eight months out of every twelve in Asia, to be our China champions.

Skorina: Bill and Doug, tell us why you are so committed to China.

Bill: In 1993 I was hired by the Deputy Director of the Central Bank of China. They wanted me to help them set up risk management, trading strategies, and train the trading staff. It gave me a chance to develop the connections and local knowledge that led to founding Seagate. That was eighteen years back, but even then everything we heard from government officials suggested that big change in China was just getting started. Eventually we were able to launch Seabright, a joint venture between Seagate and China Everbright Limited that became a model for later private equity ventures on the mainland.

And, Charles, let me underline something right now. Before anyone invests in China there is one cardinal, paramount fact to keep in mind: The government owns everything, either directly or indirectly, and they determine who wins. Remember that fact and act on it, and opportunities - both medium- and long-term -- are better than almost anywhere else in the world. Forget that rule and a foreign investor has no chance. That's the reality in China.

Skorina: Doug, you mentioned in an earlier conversation that, in one respect, investing in China is no different than anywhere else in the world: you have to "follow the money". What did you mean by that?

Doug: Thanks to a huge stimulus from the China-ASEAN free trade agreement signed in 2002 and the more recent slowdowns and trade restrictions in Europe and North America, the opening of the "China west" has moved southwest to Yunnan Province, and its capital, Kunming.

The Chinese government has designated Yunnan province and Kunming City (in southwest China, bordering Viet Nam, Laos, and Myanmar) as ground zero for a massive development and infrastructure expansion to accommodate this explosion in Southeast Asian trade. Roads, airports, shipping upgrades, factories, apartments, it's all happening now and will be for the next ten to twenty years.

Last year we were officially designated as advisors to the city and provincial government, so we spend a lot of time and energy helping local business and the bureaucracy with development programs. As a result, we have seen this last year a hundred companies I never knew existed. They have the largest toothpaste tube manufacturer in the world, the largest bamboo farm in the world, huge solar projects.

By the way, the Chinese are far more committed to green projects than reports in the Western press would lead you to think. And the economies of scale they are getting with some of these projects are amazing.

I can't stress enough, however, the importance of working with the city and provincial government as well as local businesses. In China they say that "if it's not a good deal, then everyone is invited". As a foreigner, you are only allowed to invest in the good deals if they know you, have worked with you, and feel you have earned it.

Skorina: Chuck, you've just heard Doug and Bill extol PE and VC investing in China. What do you think?

Chuck: I have a number of investments in China, visit the country often, and I too am optimistic about their long-term prospects, but I still have to wonder why India hasn't been getting more love these days. After all, Prime Minister Singh was actually elected to his office, while democracy is not on the Chinese agenda.

Even if you agree with the Chinese that democracy is just a distraction if you're trying to get rich, you have to remember that India will likely be one of only three economic super-powers still standing in thirty years. China will be huge, but diversified investors need to have chips in the other Asian growth-machine, as well.

And let's not forget a few facts that aren't always given enough weight. Virtually all business in India is conducted in English. And they have a respected court system. It can be slow and unwieldy, but in the end, contracts are usually enforced, so you don't have to bet everything on the whims of government officials. Last, but not least, they have a thriving free press. No Google censorship in India. Tracking and understanding business conditions and assessing risk still requires local knowledge, of course. And established relationships are essential. But an English-speaking foreign investor can operate on something close to a level playing-field.

Skorina: But isn't the planning and execution process much more efficient in China?

Chuck: Not necessarily. In regards to what Doug and Bill said about who wins and who loses in the Middle Kingdom. In China, it's true that the government drives everything. But this means that overall capital investment is planned from above. And we don't have to look much beyond Russia's recent past, or even India during the years of the "License Raj", to see the distortions that central planning and government controls can cause. Eventually, those distortions have to be corrected, and the result usually isn't pretty.

Indian government bureaucracy is still formidable, but much less onerous than a decade ago. The government is more a clumsy middle-man than an absolute arbiter of what gets built by whom. Permits can take longer than in China, but, once those issues are resolved and management is in place, buyers are standing there with cash in their fists. Rising middle-class demand for everything means that profits are almost locked-in if you have a decent business proposition.

So, in India, we look for the entrepreneurs and companies that can get things done, that have a track record, and ambition. In India, all apartments are full, with buyers waiting for every completion, every car, and every shop opening. All roads are at capacity and lead to crowded destinations. Just build it: cell-phones, cars, apartments, appliances, financial services. Build it and customers are waiting to buy it.

Skorina: So, guys, if I could sum up what I think I've heard here in our first round of discussions: In China, you place your bets on the government official or agency that will sponsor the deal. In India, the winning horse is the individual business with the smarts and stamina to get through the bureaucratic gantlet and reach the customer.

To be continued...

Seagate Global Investors: http://seagateglobal.com/china-asean-investments/pages/china-asean-investments.html

Tano Capital, email: etan@tanocapital.com

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Less Work, More Pay: Federal Workers Are Really Skilled; Just Ask Them!

Our readers are a sophisticated group, but we suspect that even for them the workings of our government are sometimes hard to fathom.

But now and then a single flare lights up the whole apparatus.

USA Today reported on December 12 that:

1. When the recession started, the U.S. Department of Transportation had only one person earning a salary of $170,000 or more.

2. Eighteen months later, more than sixteen hundred DOT employees have salaries above $170,000.

Some Congressperson is quoted as saying: "There's no way to justify this to the American people."

But then, someone stepped up and justified it anyway. It was the Government Affairs Director of the Federal Managers Association, saying that the federal workforce has to be highly paid. Why? Because it employs skilled people.

So there you go, silly Congressperson. When the recession arrived, sixteen hundred federal employees pulled up their socks and acquired buckets of new skills. The American people should be gratified that they rose to the occasion.

In fact, there has been no recession whatsoever among the highly-skilled federal workforce. In the private sector, nonfarm payroll jobs dropped by 150,000 in December and 20,000 in January. But the federal civil service created 33,000 new positions in January alone (only 9,000 of them temporary census jobs).

The average federal worker makes $71,000. The average private-sector worker makes $40,000. Following the logic of the Federal Managers Association, we infer that federal workers are 78% more skillful than private-sector workers. And, apparently, they're getting more skillful by the hour.

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Charles A. Skorina & Company
Executive Search Consulting
415-391-3431
skorina@sbcglobal.net

History:

• JPMorganChase - Credit and risk management
• Ernst & Young - Systems and process consulting
• US Army - Russian Linguist, Japan
• University of Chicago, MBA, Finance
• Michigan State University and MIIS/Middlebury College
• Culver Military Academy

The Skorina Letter No. 8

The Skorina Letter
People and issues in Global Investment Management
January 21, 2010

In this issue:

• Hedge funds hunt for talent
• Another day another scandal
• Three keys to hedge fund performance

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Connections:

Chief investment officers and hedge fund managers have reasons for hiring and reasons for moving, and I am regularly asked for help with both situations. If there is a fund looking for talent, or an investment professional looking for a change, we are happy to post your news, or to help you with referrals.

Chief Investment Officer Opening:

A major community foundation, the $3.1 billion California Endowment in Los Angeles, is searching for a chief investment officer. René Goupillaud, the former CIO, left about six months ago and Jesse Casso, a board member and managing partner of private equity firm Casmar Capital Partners, has been running the investment process on an interim basis.

Here is the link to the position description: http://www.calendow.org/Article.aspx?id=4246 Hedge

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Funds Hunt For Talent:

Sandalwood Securities made Mihir Meswani an offer he couldn't refuse.

Sandalwood, a $1 billion credit fund of funds, has hired Meswanit away from the Robert Wood Johnson Foundation, where he had run their hedge fund, traditional equity and fixed income portfolios. The Johnson Foundation controls $8 billion, but even the biggest nonprofits have trouble holding talent when a hedge fund really wants someone and shows up waving show-biz money.

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Lessons Learned from the Wesleyan Endowment Affair:

In previous issues we prominently mentioned the strangely quiet departure of Wesleyan University's endowment CIO Thomas Kannam back in October for reasons that no one involved was quite willing to discuss. It appears now that the "other interests" he supposedly left to pursue are mainly going to involve defending himself in court.

Vigilant student reporters at the campus newspaper, and Gillian Wee at Bloomberg News, have revealed that Wesleyan, with a current endowment of approximately $520 million, is suing Mr. Kannam for a host of transgressions including fraud and breach of fiduciary duties. The allegations include a too-cozy relationship with a hedge fund and padding of his personal expenses. In fact, the whole affair is so juicy that it has attracted the official attention of the state's Attorney-General. That would be Richard Blumenthal who, coincidentally, is hoping to become Connecticut's next U.S. Senator this fall.

When I discussed the matter with one veteran university CIO, he pointed out that endowments often don't have sufficiently detailed policies or written employment contracts covering these matters. And he noted that too-rapid turnover of investment committee members can cause additional conflict and disagreement about how potential conflicts-of-interest should be treated.

Pension funds and endowments usually have a written investment policy covering strategy and asset allocation. But there should also be a separate operating policy specifically including such issues as disclosure rules, fiduciary responsibility, conflict of interest, and expense reimbursement.

Written policies don't enforce themselves, of course, and they are no substitute for management oversight. The Wesleyan situation should be a wake-up call for any institution which may have skimped in this area.

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Three Keys to Better Hedge Fund Performance:

For all money managers, consistency is hard. A few geniuses like Warren Buffet maintain their touch over years and decades, but most don't. Some of the impediments are well known and widely discussed: Investment is notoriously hard to scale, with big pots much harder to manage than small ones. And, brilliant, original strategies lose their potency when they are widely copycatted. Or, we find that a strategy works in one season, in one kind of market, but not in another.

But there are other problems less often mentioned, that have more to do with the art of management than with the art of investing. Here are three of them:

First: Lack of management experience.

A hedge fund isn't just a strategy; it's also a small business, and it has to be managed. Most are run by very bright, very competitive, often very wealthy individuals with little to no management experience. On top of that, many come from academia and technical areas where social skills weren't a high priority. But as companies grow, they all need management experience in leadership, mentoring, and execution. Some owner/founders learn to recognize their limitations and bring in people with management skills to complement their own trading-and-strategizing smarts. In the long run, they win; and the others don't.

Second: Not-invented-here syndrome.

Nobody invents the wheel more than once or twice in their lifetime, so most good new ideas will come from outside a company's four walls. There are only two transmission belts: people can re-tool old approaches and learn new ones -- which is hard. Or, firms can regularly interview new blood and bring in as many new hires as they can absorb, bringing new approaches and fresh ideas with them -- which is less hard.

Third: Sclerosis in the firm's strategy and structure.

The Greek philosopher Heraclitus argued that change is the only reality. "No man ever steps in the same river twice, for it's not the same river and he's not the same man." Organizations should critically review their strategies and operations on a regular basis, whether it's "needed" or not. How is the money really being made? What are the drivers? Are there too many people in the firm, or involved in the decision process? Too few? The wrong ones?

A once-in-a-generation downturn like the one we've just seen is also the best chance investment firms will have for years to hire incredible talent at credible prices. Recognizing this is a critical step in sustaining performance.

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Better Process, Better Performance:

Elena Ambrosiadou, founder and long-time CEO of London based IKOS, a quant fund managing $1.4 billion, gave a video interview to Opalesque Online that's worth ten minutes of your time. She comes from a technical, "non-people" background of the kind I referenced above but, in a very interesting way, she's turned that experience into an effective management philosophy. In the chemical industry she ran production processes; now she applies that same kind of continuous process refinement, to running a multi-strategy hedge fund and turns it into a competitive edge. It's one way to accomplish the constant adaptation to change that a Heraclitean world requires.

The link is here: http://www.opalesque.tv/videos/Elena_Ambrosiadou

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One-Stop Shops: Start your Engines:

Carolyn McLaurin, head of SEI's endowment and foundation practice, mentioned to me the other day that she is seeing a sharp increase in requests for "total outsourcing" proposals from the pension and investment community.

She said: "The RFPs used to ask for consulting help on a specific piece of the portfolio, but it was clear that the foundation would run the overall strategy. Now, the RFPs are often specifically asking for a turnkey solution, with investment discretion in the hands of SEI." They are especially seeing more such inquiries from nonprofit health systems.

Two camps are emerging. The big endowments and pension funds are bringing more investment management in-house to maintain control after the shocks of last year, while smaller colleges, foundations, and pension funds are finding the investment work overwhelming and are looking for a total solution.

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What We Say Versus What We Do:

Peter Lynch, the legendary chief of Fidelity's Magellan Fund in its glory days, used to make a lot of media appearances. He once said that when he reviewed what he had said on some talk show, he was often amazed to see that his carefully articulated public views would not have led to his actual investment moves. He concluded that investment professionals make money because of their discipline and experience, and often rationalize what they've done after the fact.

I was reminded of this while reading a report from the Citigroup global markets group. Their January polling data suggests that investors are oscillating between investment caution and an optimistic view of the future. As the Citi survey notes, " with an approximately 10% total return for stocks being anticipated, it is unclear why the average cash position has climbed as a percent of the portfolio from the October readings." As with Mr. Lynch, the public pronouncements investors are making don't seem to square with how they're actually investing.

But, it does tell me that for money managers -- including hedge funds -- with a good strategy and story, there is still a lot of cash waiting out there. How does that old Gershwin tune go? "Nice work if you can get it, and you can get it if you try."

The survey also points out that Asian Emerging Markets sentiments seems to be holding up nicely and we intend to focus in future newsletters on India and China, since they offer such fascinatingly contrasting views of governments and economic systems, two very different " roads to riches" stories.


Charles A. Skorina & Company
Executive Search Consulting
415-391-3431

History:
JPMorganChase - Credit and risk management
Ernst & Young - Systems and process consulting
US Army - Russian Linguist, Japan
University of Chicago, MBA, Finance
Michigan State University and MIIS/Middlebury College
Culver Military Academy
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