A Gonzo Journalist's Guide to TCFA 2005

Part of JosephWang's China quant pages.

Some ramblings after attending the TCFA conference at

http://www.aimhi.com/VC/tcfa/conference/conference.htm

I'm constantly adding to this file so do visit later to see if I've added anything.

(Apologies to Hunter S. Thompson)

Session One: Hedge Funds: An Overview or Why hedge funds won't destroy the world.

There were two speakers Mustafa JAMA and Bing LIANG. The focus of Mr. Jama's talk were some of the driving forces behind the hedge fund industry. The main points were that hedge funds are huge and much of the growth are driven by a desire for returns in an era where the S&P isn't returning anything. Prof. Liang gave a good talk on the difficulties in measuring overall hedge fund performances. Among the list of biases are survivor bias in which hedge funds that die and there are a huge number don't get reported. Hedge funds apparently open and close like fireflies.

I came the to conference worried like many people about the possibility that hedge funds would destroy the economy like LTCM almost did in the 1980's. After the Q and A sessions, I'm less worried. Mr. Jama answered the question about management risk by listing the reasons why hedge fund managers won't take silly risks. Basically being in a busted hedge fund will kill your career and managers hate being in a bad hedge fund because they have to deal with angry clients. Prof. Liang pointed out that the incentive packages for hedge fund managers increasingly requires that they make up losses before having any gains count toward incentive pay.

Basically there are two possible ways that hedge funds could kill the economy. The first is if they take excessive risk because they do not fear failure. This risk is mitigated by the fact that they do fail at an extraordinary rate, but a single hedge fund is small enough so that its failure should not bring down the economy. A more serious risk is the possibility that an external event will cause a simultaneous failure of many small firms. Prof. Bing did not seem too concerned about this because even though they are all lumped together under hedge funds, hedge funds actually take many different trading strategies and this huge diversity makes it less likely that an external event will cause a simultaneous collapse.

Session Two: Fixed Income Trading

I really liked Donald QUINTIN's talk because it had a huge amount of bond trader jargon. Hearing a lot of jargon is fun to me, because there is a lot of knowledge encoded within jargon, and I felt like I was in a foreign country listening to a language that resembled one that I learned a lot time ago but which I only half remembered. More than any of the other talks, Mr. Quintin gave me the sense of being in an unfamiliar world which for me is a pleasant feeling.

Ping JIANG and Brian PAN gave some information on how they manage their macro investment fund. Basically macro investment involves looking at the macroscopic trends. One thing that they mentioned was that they were a bit bewildered at why interest rates are so long. I have my own theory.

Session Three: Private Equity Funds/Venture Capital or Why 19th century Englishmen are wrong.

The private equity session was interesting because I really didn't have a good sense before of the huge number of deals that where being down in China. The problem for me is that I'm attracted to the quantitative side of things, and in private equity, it is all qualitative. Keith ABELL mentioned that his firm was concentrating in Chinese real estate which was booming in large part because there are no investments in the risk/reward curve between zero interest bank accounts and high risk real estate. Unlike the hedge fund talks, I came away with the sense that yes there is a real estate bubble in China.

The Englishman's Fallacy

One of the things that Mr. Abell mentioned was that most Western investment in China was based on the premise that the English had in the mid-19th century that if every Chinese increased his shirt tail by a certain amount, that English looms would be spinning forever. There is one huge problem with that mode of thinking and that be seen by what Chinese trade has done to English textile factories. Competition with China has caused English textile factories to largely go out of business. The Englishman's fallacy seeing China merely as 1.3 billion consumers whereas in fact Chinese are going to be both consumers and producers.

The Large Market Fallacy

The other problem which occured to me when I was listening to the talks was the fallacy of large markets. One of the speakers mentioned that he didn't think that real estate was going to crash because there were 300 million peasants going to the cities. The trouble with that is that when I looked at investments that the private equity firms were making, they were aimmed at the wealthy in China. There's nothing wrong with that, except that you are looking at a market of 30 million rather than of 300 million or a billion. I have this worry that too much money is being put into villas for the very wealthy, and that isn't where the money is going to be made. If you look at the major companies that drive the economies of developed nations, you'll see that most of them provide goods and services for the middle class, and in the list of investments the private equity firms were making, I didn't see anything that would remind me of a Model T, a microcomputer, or WalMart.

Lunch

Lunch consisted of boxed lunches. I had the prosucitto sandwich,

Keynote Speech - Globalization

The keynote speech was by Matthew Li, head of Fore Research Management. His speech talked about what he thought was the main trend of our times which is globalization. One of this points was that people in the United States no longer have the right to expect a well-paid job simply by virtue of being American and that the United States had to reorient its economy to things that couldn't be easily sent overseas. Also he mentioned that the important thing for a young person to do is to keep learning things, and said that the biggest mistake that he ever made was to work somewhere where he wasted ten years not learning anything new.

Session Four: Hedge Fund/Proprietary Trading or How to give on talk if you aren't allowed to say anything....

The hedge fund talks was about various strategies that hedge funds used to make money. The interesting thing about the talks was that hedge funds tend to be very secretive and SEC rules also often prevent people from doing anything that might remotely resemble advertising. So these takes all consisted of information that was in the public domain and there weren't any particularly interesting or earth shattering insights.

I didn't take too many notes here. By this time, my attention was wandering because it was pretty clear that PRC capital controls made it unlikely that I would be able to work at a hedge fund anytime soon.

However, one point that I should include for people who aren't familar with financial services. People in financial services take securities laws and regulations very seriously. One sometimes gets the impression from the financial scandals that this isn't the case, but it should be noted that these scandals generally end up with someone going to jail and other people losing huge amounts of money. Securities laws in the United States really have teeth, so people are very sensitive to making sure that all of the rules are complied with because bad things will happen if they aren't.

Session Five: Asset Management in China or Why the stock market may change in a hurry.

The last talk was by Feng XIAO who had travelled from China to attend the conference. As with the previous talk, he didn't talk too much about the details of his own fund, but rather on the stock market reforms that are ongoing and why they are necessary. One of the curious things is that Boshi really isn't a hedge fund, since these don't exist in China, but rather something more akin to a mutual fund.

The main point (which Mr. Xiao went into detail with) was that by unifying tradable and non-tradable shares, you end up with a system in which both large and small shareholders are united in making sure that the management focuses on profitability. Also something else that he mentioned was that the government is making it easier to issue securities. He mentioned that there was a deriviative security now being traded (I forget which one) that is signficant because it is the first contract that did not require explicit government approval to be traded.

The other thing impression that I got from the talk was that the Shanghai stock market is in less bad shape than many in the West have portrayed it. Sure there are huge problems, but in one of the answers to one of the questions, Mr. Xiao seemed to indicate that local people with careful digging can see opportunities that people on the outside had difficulty seeing.

General observations

* The main talks with two exceptions were in English. The side conversations were in Mandarin. One thing that I noticed was the people tended to use a combination of Mandarin and English with Mandarin making up most of the conversation with English sliding in for technical terms. This is interesting because it reminded me of the way that Norman French terms entered the English language. The other thing that I found interesting was that no one figured out that I was American born. When I speak Mandarin I tend to insert English phrases and use American rhythms in speaking. However, since most of the people at the conference had been in the United States for a long time, they tended to do the same thing.

* Chinese finance has two meanings. One is Chinese people doing finance. The other is finance in Chinese areas. These two definitions are still rather distinct, but they seem to be merging.

* One blind spot was that no one seemed to bring up the issue of the rich/poor gap in China which is the biggest problem facing the nation. One can look at this issue not only from a social justice point of view, but also purely in terms of wealth and profit. If the rich/poor gap isn't addressed, then the result is going to be massive social revolution and revolutions are bad for business. Conversely creating a middle class in China is not only good for one's karma, it is also going to make some people unimaginably rich.

* The other issue is that I suspect that in about three to five years some basic changes will need to be made with the format of the conference. It was barely possible to fit all of the material in one day, and with the growth that one would expect to see in the next few years, the conference may have to start to be multi-day.

* I did manage to get an answer to my questions on Glass-Steagall restrictions on China financial services.