| Jeffrey Tarrant |
It’s safe to say Jeffrey Tarrant is a betting man. In 2008, Protégé Partners, a $2 billion fund-of-funds firm set up by CEO and CIO Tarrant and then-co-CIO and co-founder Ted Seides, accepted Warren Buffett’s $1 million wager that over ten years and after fees, costs and expenses, Protégé’s selection of five funds of funds (not associated with Protégé) would beat the Berkshire Hathaway chief’s chosen S&P 500 index fund, Vanguard 500 Index Fund Admiral Shares. It wasn’t his first bet on the hedge fund industry. In 1985, after graduating from Harvard Business School, Tarrant took a chance on the then-fledgling asset class, dedicating his career to investing with hedge fund managers, managing the assets of billionaire families and setting up a fund of hedge funds for the Investment Fund for Foundations. Since 2002, Tarrant has been betting on the next generation of hedge fund managers, seeding emerging funds and investing with small, specialized managers through Protégé Partners. The firm’s name reflects the founders’ interest in discovering young talent mentored by some of the most skilled hedge funds in the world. Tarrant, who is sole CIO of the firm since Seides’ departure last June, spoke with Alpha about where he’s laying his cards in 2016.
Q. Why does Protégé Partners prefer investing in small hedge funds and emerging managers? How does Protégé Partners provide value for investors? A. Investing with small managers is a good complement to investing with large managers. They coexist nicely together and offer diversification. When it comes to smaller managers, it’s harder for clients to separate the wheat from the chaff because there are so many more smaller managers to select from than there are larger managers. Roughly 85 percent of the capital in the industry is with large managers and 15 percent is with smaller managers. There are about 350 managers that manage that 85 percent and 7,000 that manage the other 15 percent. All we focus on is the smaller manager side.
Q. What is your vision for the firm following Ted Seides’ departure?
A. Since mid-last year we’ve been trying to generate returns outside the traditional beta in the equity and credit markets while still maintaining liquidity - finding market-independent returns. I want our investment team to work on a collaborative basis, where people have a specialty and bring their specific skills as a sub-portfolio manager to introduce different ideas. I can tap the skill sets of those more quantitatively qualified or more regionally focused to have the right team to support me as the sole CIO.
Q. Has it been harder to find investment opportunities following the dip in new fund launches last year?
A. There’s no lack of opportunities. I think they are going to increase. Many of the big multistrategy hedge funds performed poorly last year. But teams inside these organizations might consistently perform well despite the performance of the organization at large. The compensation of some high-performing teams will be reduced because of incentive fee netting, forcing them to consider becoming independent. Because of that, we’ll see a lot of spin-outs this year.
Q. Where do you see the most exciting investment opportunities?
A. We’re discovering a lot of talent in Asia. The capital markets are also very interesting there. The difference between the top and bottom quartile of stocks has been roughly 25 percent over the past few years, and in the U.S. it has been about half that. That range between top and bottom quartiles creates a big opportunity set. The hedge fund indexes in Asia are outperforming the local capital markets significantly. There’s a lot less analyst coverage over in Asia than there is here, and the markets are less efficient. The ability to borrow securities and go short in Asia has skyrocketed.
Q. Eight years into the wager with Warren Buffett, Protégé’s index of funds of funds trails Buffett’s S&P 500 index fund. Do you anticipate a comeback?
A. We have two years left in the bet. We know the compound annual rate of return that the fund of funds portfolio would have to produce over the next two years and the rate of return loss by the Vanguard Fund for Protégé to win the bet. If the S&P 500 declines by 8 percent annually over the next two years and the funds of funds are up by 8 percent this year and next, we win the bet. We only have another 23 months, and where is the S&P 500 today? It’s down 8 percent. I don’t give up until the fat lady sings.
