Hedge Fund Holdings Review_Q32013_CLIENT (1)

NOVUSRESEARCH

TM

A study of hedge fund holdings and drivers of return

Hedge Fund Holdings Review Q3 2013By Stan Altshuller and Yuanjie Zhang

> January 2014 Illustration by Mitch Blunt

NOVUS RESEARCH2 > Hedge Fund Holdings Review: Q3 2013 January 2014

FFor decades, investment professionals have con-sidered hedge fund managers the smart money on Wall Street. Over the long term, hedge funds have tended to outperform traditional benchmarks on a risk-adjusted basis, so their reputation seems justified. Still, until recently, assessment of hedge fund trading in specific sectors and securities has been limited to a few select managers at a time, and less has been done to gauge the growing in-dustrys direction as a whole.

Recent advances in data collection and analytics coupled with deeper global public disclosure re-quirements allow for more robust study and close monitoring of hedge fund managers positioning. In this publication, we track developing trends in hedge fund equity holdings. In addition, we analyze the most popular and highest-concentrated names in hedge funds and relate this to out-performance of the broader market as well as study the biggest drivers of returns for the industry.

Background on DataGovernments around the globe require institu-tional and individual investors to file and disclose certain holding information for varying purposes. In the U.S., the SEC requires financial institutions to file Forms 13F, 13G and 13D. The Japanese 5% Shareholders filing requirement is similar to the 13G filing. Like American 10k, 20F and proxy filings, British Registers requirements reveal ownership positions. British insider filings include Forms 3, 4, 5 and 144, and the U.K.s Regulatory News Service (RNS) publishes insider holding information. Similar disclosure rules also exist in other major financial markets and provide public holdings information. Novus has aggregated, normalized and analyzed data from all of the aforementioned sources and many more to build the Novus Global Holding Database.

Furthermore, we have selected a highly repre-sentative group of hedge funds sourced from the Novus Database and constructed the Hedge Fund Portfolio (HFP), a non-investable portfolio avail-able to clients for closer analysis via the Novus Platform. This portfolio is the basis for our study. The indices we discuss later in the study are sub-sets of HFP and are also non-investable.

For the purposes of this study, we limited our analysis to just the public long global equity positions disclosed by managers in HFP as well as those that most drove performance for the third quarter of 2013. The reasoning for trades that we outline here is conjecture and based exclusively on public information.

Security: An investable instru-ment from a single issuer. This may also be referred to as a name, stock or company. A security is associated with a return that is independent of managers investment.

Position: A capital allocation by a manager to a security. Each separate allocation is a unique position.

Alpha: The excess return of a fund, strategy index or invest-ment relative to the return of the benchmark over a certain period.

Category: A criterion for classification. Examples include country, sector or market cap.

Exposure: The sum of all mar-ket values in a specific category. Exposure can be expressed as a dollar amount or as a percent-age of total portfolio value.

Institution: A management company with one or more long positions. Also referred to as a manager.

Participation: The number of institutions disclosing long po-sitions in a specific security.

Trade: The expression of an investment thesis through one or more positions.

Hedge fund interest: The number of shares of all dis-closed long positions from the selected hedge fund group as percent of shares outstanding for a specific security.

Reported asset value (RAV): The sum of market value of all disclosed long positions for a certain manager.

TERMS


Portfolio (HFP):The portfolio contained 11,230 securities and 99,695 positions across 782 managers and spanned 65 countries as of 9/30/2013. The total reported asset value (RAV) of the portfolio was $1,515B, up $99B from last quarter. Hedge fund managers have increased their total long value, which currently measures close to pre-crisis levels. The Feds ongoing quantitative easing program and the general economic recovery boosted U.S. equity markets and contributed positively to hedge fund performance on the long side. Although hedge funds attracted large capital inflows since the mar-ket bottomed out during the crisis (as evidenced by the increase in AUM adjusted for performance), long exposure has stayed far below the pre-crisis level. We observe a slight decline of long exposure since 2009, as hedge fund managers are cautious about the potential impact of Fed tapering exerting pressure on global asset prices, and are skittish about taking on more directional risk.

1800

1600

1400

1200

1000

800

600

400

200

180

160

140

120

100

80

60

40

20

Exposure (%)Value ($B)

3/04 3/05 3/06 3/07 3/08 3/09 3/10 3/11 3/12 3/139/04 9/05 9/06 9/07 9/08 9/09 9/10 9/11 9/12 9/13

Exposure

Value

Note: Long exposure is the total reported asset value as a percentage of total hedge fund AUM. (AUM Source: Hedge Fund Research (HFR))

As of 9/30/2013

Change from 7/01/2013

Managers 782 +3

Countries 65 +1

Securities 11,230 +272

Positions 99,695 +2,448

Total Market Value $ 1,515B +99 B

PORTFOLIO (HFP)

TOTAL LONG VALUE VS. LONG EXPOSURE


PerformanceHFP slightly underperformed the benchmark entering the fourth quarter of 2013, as it returned 6.1% through November 15 against 7.0% for the S&P 1500. Year to date, the portfolio was up 32.8% compared to 28.9% for an equivalent position on the S&P 1500. HFPs performance was high-ly correlated to the benchmark, with a monthly

correlation of 0.98 and a beta of 1.07 over the last three years. Over the longer term, HFP has a beta greater than one and a higher annualized standard deviation. Though cumulative alpha compounded over the years justifies the extra risk taken by HFP, the out-performance on a risk-adjusted basis has been reduced in the last three years.

QTD YTD 3 Year Inception

S&P 1500

Cumulative Return

7.0% 28.9% 62.5% 100.8%

Annualized SD N/A N/A 12.6% 15.1%

HFP Cumulative Return

6.1% 32.8% 62.0% 138.1%

Annualized SD N/A N/A 14.4% 16.8%

Cumulative Alpha

-0.9% 4.0% -0.5% 37.4%

Correlation N/A N/A 0.98 0.97

Beta N/A N/A 1.07 1.08

Column F HFP S&P 1500

160

140

120

100

80

60

40

20

0

Return %

-20

-403/04 9/04 3/05 9/05 3/06 9/06 3/07 9/07 3/08 9/08 3/09 9/09 3/10 9/10 3/11 9/11 3/12 9/12 3/13 9/13

HFP

Cumulative Alpha S&P 1500

HFP VS. S&P 1500


Sector Compared to the S&P 1500, hedge funds are over-weight Consumer Discretionary (19.8% vs. 15.0%) and Financials sectors (14.5% vs. 12.1%). They are highly underweight Consumer Staples stocks relative to the broad market as measured by the S&P 1500 (6.2% vs. 10.9%). HFP was also overweight in Energy, Materials and Telecommunication Services but underweight in Healthcare, Industrials and Utilities. Relative to Q2, HFP added 0.15% of exposure to Healthcare and 0.24% to Information Technology, in addition to the increase in Consumer Discretionary. Last quarter, HFP reduced exposure by 0.67% in Financials and 0.3% in Telecom-munication Services. HFP maintained stable allocations to most other sectors. Over the longer term, HFP has steadily increased its wager in Consumer Discretionary but avoided the bond-like Telecommunications and Utilities sectors since the financial crisis.

Driven by the broad market rally and security selec-

tion, all sectors of HFP have positive returns, and eight of ten sectors outperformed the benchmark in Q3 2013. The largest area for alpha was the Telecom sector, where the stocks in HFP outperformed the benchmark stocks by 10.1%. Telecom was the only losing sector for the benchmark in Q3, as Telecom lost 4.3% in the S&P 1500 but gained 5.8% in HFP. Information Technology was the best-performing sector, up 11%, surpassing the benchmark by 5%. Consumer Discretionary, the most overweight sector, was HFPs second-best performing sector, up 10.5% in Q3. Despite the significant under-weight in Consumer Staples, HFP beat the S&P 1500 through selection skills, returning 5.4% in Consumer Staples against 0.9% in the S&P 1500. Besides the four sectors mentioned above, HFP also contained securi-ties that on average outperformed their benchmark se-curities in Financials, Healthcare, Energy and Utilities, contributing to HFPs sector out-performance.

ServicesTelecommunication

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

3/04

9/04

3/05

9/05

3/06

9/06

3/07

9/07

3/08

9/08

3/09

9/09

3/10

9/10

3/11

9/11

3/12

9/12

3/13

9/13

Hedge Fund Historical Sector Exposure

Utilities

Services

Materials

Consumer Staples

Industrials

Energy

Health Care

Financials

Information Technology

Consumer Discretionary

Telecommunication

Utilities

Materials Consumer Staples

Industrials

Energy

Health Care

Financials


Consumer Discretionary

6/04

12/0

4

6/05

12/0

5

6/06

12/0

6

6/07

12/0

7

6/08

12/0

8

6/09

12/0

9

6/10

12/1

0

6/11

12/1

1

6/12

12/1

2

6/13

3/04

9/04

3/05

9/05

3/06

9/06

3/07

9/07

3/08

9/08

3/09

9/09

3/10

9/10

3/11

9/11

3/12

9/12

3/13

9/13

3/04 9/04 3/05 9/05 3/06 9/06 3/07 9/07 3/08 9/08 3/09 9/09 3/10 9/10 3/11 9/11 3/12 9/12 3/13 9/13

HEDGE FUND HISTORICAL SECTOR EXPOSURE

?52?

HFP vs S&P 1500 Sector Exposure and Performance

Utiliti

es

Teleco

mmuni

cation

Servic

esMa

terials

Consu

mer

Staple

s

Indust

rials

Energy

Healt

h Care

Financ

ials

Inform

ation

Techno

logy

Consu

mer

Discre

tionar

y

-10%

0%

10%

20%

30%

40%

50%

60%

Mega-Cap Large-Cap Mid-Cap Small-Cap Micro-Cap

HFP S&P 1500 HFP S&P 1500 Exposure as of 9/30 Performance for Q3

20%

15

10

5

0

-5Consumer

DiscretionaryFinancials Energy Consumer

StaplesTelecommunication

Services


Health Care Industrials Materials Utilities

Exposure as of 9/30 Performance for Q3HFP S&P 1500HFP S&P 1500

20%

15

10

5

0

-5

HFP VS. S&P 1500 SECTOR EXPOSURE AND PERFORMANCE


Market CapHedge funds favored mid-caps, the highest overweight sector at about one-third of the book, versus 13.6% for the index. HFP had another third of its assets allocated to large-cap stocks, in which the S&P 1500 had a similar allocation. HFP was also overweight in small-cap and micro-cap stocks. The clear underweight was mega-cap, which account-ed for only 21% of HFPs portfolio but more than half of the benchmark.

In Q3, all market caps of HFP outperformed their counterparts in the S&P 1500, driven by security selection and sizing. In the particular case of mi-cro-cap stocks, HFP achieved 11% return while the benchmark lost 9%.

Since the market bottomed out after Q1 2009, HFP has boosted its exposure in the large-cap and mega-cap sectors above pre-crisis levels. While HFP continued to add large-cap and mega-cap names, it slashed its exposure sharply in small-caps and micro-caps.

Over the long term, as large hedge funds expe-rience increased incentive to gather assets over small funds, fund managers are expected to seek more investment opportunities among large-cap and mid-cap companies given the limited oppor-tunities in mega-caps and the difficulty of investing large amounts of capital in small-cap and mi-cro-cap names. Thus, HFP is expected to continue to increase its allocation in mid- and large-cap companies as the industry grows.

Concentration Not surprisingly, hedge funds have distinctly more concentrated portfolios than the benchmark. The typical hedge fund has on average 58% of its long-equity assets invested in its top 10 positions compared with only 17% for the S&P 1500. To some extent, higher concentrations explain more volatile performance against the benchmark. Nonetheless, with solid security selection, hedge funds have generated and accumulated sizable alpha over the years.

-10

0

10

20

30

40

50

60%

Mega-Cap Large-Cap Mid-Cap Small-Cap Micro-Cap

HFP vs S&P 1500 Market Cap Exposure and Performance

HFP S&P 1500 HFP S&P 1500 Exposure as of 9/30 Performance for Q3

Performance for Q3HFP S&P 1500

Exposure as of 9/30HFP S&P 1500

-10

0

10

20

30

40

50

60%

% of total long equity portfolio

0

10

20

30

40

50

60

70

80

90

100%

0 10

# of Positions

20 30 40 50 60 70 80 90 100

S&P 1500

HFP

HFP VS. S&P 1500 MARKET CAP EXPOSURE AND PERFORMANCE Hedge Fund Historical Market Cap Exposure

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

3/04

9/04

3/05

9/05

3/06

9/06

3/07

9/07

3/08

9/08

3/09

9/09

3/10

9/10

3/11

9/11

3/12

9/12

3/13

9/13

Micro-Cap Small-Cap

Mid-Cap

Large-Cap

Mega-Cap

HEDGE FUND HISTORICAL MARKET CAP EXPOSURE

% OF TOTAL LONG EQUITY PORTFOLIO


Novus StrategyIndices In order to determine whether following the invest-ments of hedge fund managers could add value over the broad market, we constructed custom, non-investable strategy indices and tracked their

performance against the S&P 1500. In the following section, we discuss some of the methodologies used to construct these strategies as well as their results.

ConsensusTo gauge the most frequently held names in the industry, we constructed a list of 20 stocks with the

Consensus Label TickerManager

Count

Change from 7/01

Value($B)

% ofS.O.

% of ADV

QTD Return

YTD Return

APPLE INC 1 AAPL 238 11 11.96 2.69 195.31 10.8% 1.1%

GOOGLE INC 2 GOOG 205 -16 10.32 3.47 641.13 18.0% 46.1%

MICROSOFT CORP 3 MSFT 189 9 9.81 3.49 547.99 13.7% 44.8%

JOHNSON & JOHNSON 4 JNJ 187 23 4.33 1.74 569.08 8.9% 37.8%

JPMORGAN CHASE & CO 5 JPM 185 1 6.50 3.34 680.98 6.9% 28.3%

AMERICAN INTERNATIONAL GROUP 6 AIG 177 -8 10.67 14.77 2187.69 1.4% 39.9%

CITIGROUP INC 7 C 164 -9 6.66 4.51 584.54 3.9% 27.5%

EXXON MOBIL CORP 8 XOM 155 7 3.23 0.85 322.43 11.5% 13.1%

QUALCOMM INC 9 QCOM 155 -10 5.50 4.65 670.27 7.2% 18.4%

BANK OF AMERICA CORP 10 BAC 154 1 3.68 2.32 279.06 8.1% 28.8%

GENERAL MOTORS CO 11 GM 153 21 5.41 8.95 1114.40 7.8% 34.5%

PFIZER INC 12 PFE 151 -14 4.71 2.46 612.80 13.0% 32.7%

GENERAL ELECTRIC CO 13 GE 150 1 3.42 1.40 423.28 13.9% 32.7%

WELLS FARGO & CO 14 WFC 147 6 4.30 1.93 579.07 6.1% 31.1%

PROCTER & GAMBLE CO 15 PG 145 0 3.42 1.55 621.32 13.1% 28.9%

CHEVRON CORP 16 CVX 141 3 2.39 1.02 391.88 -0.4% 14.7%

MERCK & CO 17 MRK 140 -1 2.50 1.78 443.54 1.0% 20.7%

INTL BUSINESS MACHINES CORP 18 IBM 139 3 2.94 1.44 438.43 -0.6% -2.5%

FACEBOOK INC 19 FB 137 54 7.05 5.57 201.97 -2.4% 84.1%

CISCO SYSTEMS INC 20 CSCO 135 -14 3.44 2.73 430.44 -7.4% 12.1%

Strategy QTD Return QTD alphaReturn since Mar. 2004 Alpha

Annualized SD Correlation Beta

Consensus 6.72% -0.32% 48.94% -51.82% 16.31% 0.95 1.03

Size 7.96% 0.93% 125.87% 25.11% 16.58% 0.91 1.00

Concentration -0.28% -7.32% 287.90% 187.14% 23.57% 0.81 1.26

Conviction 5.68% -1.35% 230.88% 130.12% 14.62% 0.91 0.87

S&P 1500 7.04% 0.00% 100.76% 0% 15.14% 1.00 1.00


YTD Return

-50%

-20%

10%

40%

70%

100%

20% 10% 0% 10% 20% 30% 40%QTD Return

0%

-

S&P 1500 Consensus

1

5

7

8

1011

12 131415

1617

19

20

23

46

9

18

-60%

-40%

-20%

0%

20%

40%

60%

80%

100%

120%

Top Participation vs. S&P 1500

Cumulative Alpha

Consensus

S&P 1500

3/04 9/04 3/05 9/05 3/06 9/06 3/07 9/07 3/08 9/08 3/09 9/09 3/10 9/10 3/11 9/11 3/12 9/12 3/13 9/13

TOP CONSENSUS VS. S&P 1500

highest participation among all the selected hedge fund managers. The two highest-owned stocks by number of holders continued to be Apple and Goo-gle, while Microsoft displaced American Internation-al Group as the third most popular stock. There are 782 managers in the portfolio; thus we estimate that 30% of all hedge funds hold Apple.

To understand if participation (consensus) translates into good performance, we created a

participation index on an equal-weighted basis to be rebalanced every quarter according to the methodology of top participation. We tracked its performance compared to an equivalent position in the S&P 1500 since inception. Historically, this index lagged the performance of the broad market benchmark. Hence, it would not have been wise to simply invest with the highest-consensus names of hedge fund managers.


SizeIn the next test, we aimed to uncover a relation-ship between allocation size and performance. We constructed a list of 20 stocks with the largest aggregate holding value among the 782

selected hedge fund managers. Apple, AIG and Google remained the top three by value, but Ap-ple and Google swapped their positions from the previous quarter.

Size Label TickerManager

Count

Change from 7/01

Value ($B)

% of S.O.

% of ADV

QTD Return

YTD Return

APPLE INC 1 AAPL 238 11 11.96 3 195 10.8% 1.1%

AMERICANINTERNATIONAL GROUP 2 AIG 177 -8 10.67 15 2188 1.4% 39.9%

GOOGLE INC 3 GOOG 205 -16 10.32 3 641 18.0% 46.1%

MICROSOFT CORP 4 MSFT 189 9 9.81 3 548 13.7% 44.8%

ICAHN ENTERPRISES LP 5 IEP 9 0 8.72 93 132750 43.9% 179.6%

SPDR S&P 500 ETF TRUST 6 SPY 117 10 7.76 5 44 7.2% 28.3%

VALEANT PHARMACEUTICALS INTL 7 VRX 65 0 7.50 22 6197 2.7% 79.2%

TWENTY-FIRST CENTURY FOX INC 8 FOXA 93 10 7.41 10 2017 2.0% 52.8%

PRICELINE.COM INC 9 PCLN 95 7 7.39 14 1213 12.7% 83.7%

FACEBOOK INC 10 FB 137 54 7.05 6 202 -2.4% 84.1%

CITIGROUP INC 11 C 164 -9 6.66 5 585 3.9% 27.5%

JPMORGAN CHASE & CO 12 JPM 185 1 6.50 3 681 6.9% 28.3%

AMAZON.COM INC 13 AMZN 104 -3 6.16 4 823 18.1% 47.2%

THERMO FISHER SCIENTIFIC INC 14 TMO 88 -3 5.50 16 4075 10.0% 59.8%

QUALCOMM INC 15 QCOM 155 -10 5.50 5 670 7.2% 18.4%

GENERAL MOTORS CO 16 GM 153 21 5.41 9 1114 7.8% 34.5%

TIME WARNER INC 17 TWX 87 1 5.41 9 2018 2.8% 43.6%

CHARTER COMMUNICATIONS INC 18 CHTR 60 -5 5.35 39 4615 -4.5% 68.8%

EQUINIX INC 19 EQIX 60 -10 5.32 54 3029 -8.7% -18.7%

VISA INC 20 V 122 -2 5.28 4 706 5.9% 34.3%


Though the value index slightly outperformed overall, it swung to under-performance twice throughout history and trailed HFP over time. Most

of the alpha was generated from 2011 to today. Still, the top-20 value index might lose that lead and repeat previous reversals.

S&P 1500 Size

8

710

18

19

1

2 34

9

11 12

13

15

14

1617

206

5

-100%

-50%

0%

50%

100%

150%

200%

-20% -10% 0% 10% 20% 30% 40% 50% 60%

YTD Return

QTD Return

-40%

-20%

0%

20%

40%

60%

80%

100%

120%

140%

3/04 9/04 3/05 9/05 3/06 9/06 3/07 9/07 3/08 9/08 3/09 9/09 3/10 9/10 3/11 9/11 3/12 9/12 3/13 9/13

Top Value vs. S&P 1500

Cumulative Alpha Top Value S&P 1500

S&P 1500

Size

Cumulative Alpha

TOP SIZE VS. S&P 1500


ConcentrationNext, we examined stocks with the highest aggre-gate percentage of shares outstanding for each specific security among hedge funds (hedge fund interest). We set a threshold of 20 participating managers to avoid penny stocks, closely held

stocks or extremely illiquid stocks.Again, we created a top hedge fund interest

index and tracked its performance against the S&P 1500. The results were astonishing: one dollar invested in this hedge fund interest index in 2004

Concentration Label TickerManager

Count

Change from 7/01

Value ($B)

% of S.O.

% of ADV

QTD Return

YTD Return

CVR ENERGY INC 1 CVI 20 -4 2.82 84.3 12868.7 0.4% -0.6%

NATIONSTARMORTGAGE HOLDINGS 2 NSM 25 -5 4.16 81.9 9530.4 -30.9% 25.4%

SAREPTATHERAPEUTICS INC 3 SRPT 21 1 1.20 74.8 1331.0 -69.6% -44.3%

SPECTRUM BRANDSHOLDINGS INC 4 SPB 26 0 2.47 71.1 18432.9 -0.3% 48.0%

MASONITEINTERNATIONAL CORP 5 DOOR 22 21 0.82 56.1 16383.6 0.3% 48.7%

EQUINIX INC 6 EQIX 60 -10 5.32 54.1 3029.2 -8.7% -18.7%

REPROS THERAPEUTICS INC 7 RPRX 24 2 0.32 51.6 1801.2 -43.6% -4.1%

LORAL SPACE& COMMUNICATIONS 8 LORL 28 0 1.07 51.4 43680.0 7.0% 32.6%

LEAP WIRELESS INTL INC 9 LEAP 20 8 0.63 51.2 1866.0 2.2% 142.7%

SCORPIO TANKERS INC 10 STNG 33 -2 0.63 49.1 6455.1 20.9% 67.0%

VISTEON CORP 11 VC 59 -1 1.81 47.4 4419.5 0.9% 41.8%

REALOGY HOLDINGS CORP 12 RLGY 63 11 2.97 47.0 2562.3 6.0% 8.6%

VANDAPHARMACEUTICALS INC 13 VNDA 26 11 0.16 46.7 1770.0 33.2% 294.2%

NAVISTARINTERNATIONAL CORP 14 NAV 20 -4 1.34 45.7 3983.6 9.2% 83.1%

LIONS GATEENTERTAINMENT CP 15 LGF 39 0 2.16 43.9 4600.4 -2.4% 108.7%

ITT EDUCATIONALSERVICES INC 16 ESI 23 -2 0.32 43.8 2541.2 33.9% 139.7%

LAMAR ADVERTISING CO -CL A 17 LAMR 47 3 1.91 42.9 4108.8 8.2% 31.3%

SEARS HOMETOWN& OUTLET STR 18 SHOS 20 1 0.31 42.4 6542.7 -7.8% -10.1%

PANDORA MEDIA INC 19 P 47 13 1.82 41.3 755.5 25.6% 243.8%

HARBINGER GROUP INC 20 HRG 21 2 0.87 40.7 32531.8 10.0% 48.4%


would return about four dollars today, while the same investment in the S&P 1500 would have returned only two dollars. Yet, while this index generated 200% alpha and is to date the best-per-forming index, it is much more volatile overall and

saw out-sized drawdowns during market declines. The relatively low trading volume of these constit-uent stocks also makes this strategy difficult to follow for sizable capital and exposes investors to significant liquidity risk.

-100%

-50%

0%

50%

100%

150%

200%

250%

300%

-80% -60% -40% -20% 0% 20% 40% 60% 80%

YTD Return

QTD Return

S&P 1500

1

2

3

4 5

6

7

8

9

10

11

12

13

14

15

16

17

18

19

20

Concentration

Top Hedge Fund Interest vs. S&P 1500

Cumulative Alpha Top Hedge Fund Interest S&P 1500

S&P 1500Concentration

-50%

0%

50%

100%

150%

200%

250%

300%

350%

Ytd Return

3/04 9/04 3/05 9/05 3/06 9/06 3/07 9/07 3/08 9/08 3/09 9/09 3/10 9/10 3/11 9/11 3/12 9/12 3/13 9/13

Cumulative Alpha

CONCENTRATION VS. S&P 1500


ConvictionDoes hedge fund conviction play a role in the future performance of stocks? If a stock accounts for more than 5% of a managers portfolio, the stock is considered an investment with conviction. We con-structed a list of 20 stocks with the highest number

of managers invested with conviction.Using the same weight allocation and re-bal-

ance frequency, we created an index based on the top conviction stocks. This index beat the benchmark by 130% since 2004. The conviction

Position Label TickerManager

Count

Change from 7/01 Conviction

Value($B)

% of S.O.

% of ADV

QTD Return

YTD Return

AMERICAN INTERNATIONAL GROUP 1 AIG 177 -8 33 10.67 14.8% 21.88 1.4% 39.9%

APPLE INC 2 AAPL 238 11 19 11.96 2.7% 1.95 10.8% 1.1%

GOOGLE INC 3 GOOG 205 -16 16 10.32 3.5% 6.41 18.0% 46.1%

SPDR S&P 500 ETF TRUST 4 SPY 117 10 15 7.76 5.3% 0.44 7.2% 28.3%

BERKSHIRE HATHAWAY 5 BRK.B 130 1 15 3.28 1.2% 8.73 2.5% 29.7%

FACEBOOK INC 6 FB 137 54 13 7.05 5.6% 2.02 -2.4% 84.1%

MICROSOFT CORP 7 MSFT 189 9 11 9.81 3.5% 5.48 13.7% 44.8%

VALEANT PHARMACEUTICALS INTL 8 VRX 65 0 10 7.50 21.6% 61.97 2.7% 79.2%

TWENTY-FIRST CENTURY FOX INC 9 FOXA 93 10 10 7.41 9.6% 20.17 2.0% 52.8%

HESS CORP 10 HES 90 8 10 5.18 19.5% 26.89 7.1% 57.4%

PRICELINE.COM INC 11 PCLN 95 7 9 7.39 13.8% 12.13 12.7% 83.7%

GENERAL MOTORS CO 12 GM 153 21 8 5.41 8.9% 11.14 7.8% 34.5%

EXPRESS SCRIPTS HOLDING CO 13 ESRX 109 -5 8 3.69 7.2% 13.45 5.7% 21.0%

PIONEER NATURAL RESOURCES CO 14 PXD 75 5 8 3.22 12.3% 16.80 3.0% 82.6%

ONYX PHARMACEUTICALS INC 15 ONXX 59 19 8 3.30 36.3% 9.31 0.2% 65.5%

MASTERCARD INC 16 MA 105 8 8 3.90 4.8% 8.81 11.9% 53.7%

CHESAPEAKE ENERGY CORP 17 CHK 56 3 7 2.59 15.2% 10.53 0.3% 58.4%

CHARTER COMMUNICATIONS INC 18 CHTR 60 -5 7 5.35 38.5% 46.15 -4.5% 68.8%

LIBERTY MEDIA CORP 19 LMCA 55 0 7 2.73 15.4% 33.10 2.4% 35.7%

GILEAD SCIENCES INC 20 GILD 118 -5 7 3.40 3.2% 7.19 11.2% 90.3%


index also generated significant alpha smoothly and navigated itself well through the financial crisis and other major market retracements. The constituents of the index are stable, and turnover is low. Thus, we believe this particular index is

promising as a strategy and can generate sub-stantial return on a risk-adjusted basis over a long investment horizon. The conviction list presents a good pool for stock screening for longer-term, stable out-performance.

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Top Conviction vs. S&P 1500

Cumulative Alpha Top Conviction

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S&P 1500

3/04 9/04 3/05 9/05 3/06 9/06 3/07 9/07 3/08 9/08 3/09 9/09 3/10 9/10 3/11 9/11 3/12 9/12 3/13 9/13

Cumulative Alpha

Conviction

S&P 1500

CONVICTION VS. S&P 1500


Most ImportantSecuritiesClearly, some securities played a more meaningful role for hedge funds this quarter than others. We focused on several criteria to determine the most important names in hedge funds.

Top Initiated and Top SoldThe largest net adds in HFP (factoring out exits and reductions) were General Motors (GM), Facebook

(FB) and News Corp (NWSA), with the first two ranking high enough on manager participation to qualify as veritable hedge fund hotels. While News Corp was only held by 69 managers at 12% of shares outstanding, it was the third-highest newly initiated name behind Facebook. American International Group (AIG) saw a mass exodus, as 51 managers sold or reduced the stock on a net basis (factoring out adds and initiations). Qualcomm (QCOM) and Pfizer (PFE) also saw significant exits at 44 and 42 net, respectively.

Position TickerManager

Count NetValue($B)

% ofS.O.

% of ADV

QTD Return

YTD Return

NEWS CORP NWSA 69 56 1.10 11.82 951.55 11% 12%

GENERAL MOTORS CO GM 153 54 5.41 8.95 1114.40 8% 34%

FACEBOOK INC FB 137 53 7.05 5.57 201.97 -2% 84%

WHITEWAVE FOODSCO (THE)

WWAV 43 31 0.47 13.55 1262.99 8% 39%

XILINX INC XLNX 59 28 0.73 5.34 495.22 -6% 25%

AMERICANINTERNATIONAL GROUP

AIG 177 -51 10.67 14.77 2187.69 1% 40%

QUALCOMM INC QCOM 165 -44 5.50 4.65 670.27 7% 18%

PFIZER INC PFE 165 -42 4.71 2.46 612.80 13% 33%

GOLDMAN SACHSGROUP INC

GS 115 -39 1.76 2.24 361.92 4% 30%

GOOGLE INC GOOG 221 -35 10.32 3.47 641.13 18% 46%


Top Winners The largest winner by contribution to HFP, Icahn Enterprises, is a closely held holding company. Other large winners were popular names with sizable allocations. The second-largest con-

tributor, Google, was held by 205 managers at quarters end, while Microsoft and Apple, the third- and fourth-largest winners, and were held by 189 and 238 managers, respectively.

Position Label Ticker

Quarterly Contribution

(bps)QTD

ReturnYTD

ReturnManager

Count

Change from 7/01

Value ($B)

% of S.O.

% ofADV

ICAHNENTERPRISES LP 1 IEP 25.3 43.9% 179.6% 9 0 8.72 93 132,750

GOOGLE INC 2 GOOG 12.3 18.0% 46.1% 205 -16 10.32 3 641

MICROSOFT CORP 3 MSFT 8.9 13.7% 44.8% 189 9 9.81 3 548

APPLE INC 4 AAPL 8.5 10.8% 1.1% 238 11 11.96 3 195

AMAZON.COM INC 5 AMZN 7.4 18.1% 47.2% 104 -3 6.16 4 823

PRICELINE.COM INC 6 PCLN 6.2 12.7% 83.7% 95 7 7.39 14 1213

CANADIAN PACIFIC RAILWAY LTD 7 CP 5.7 21.2% 48.3% 44 -1 4.10 19 5,339

DELTA AIR LINES INC 8 DAL 5.0 19.5% 138.1% 90 5 3.88 19 1,009

PFIZER INC 9 PFE 4.0 13.0% 32.7% 151 -14 4.71 2 613

SPDR S&P 500ETF TRUST 10 SPY 3.7 7.2% 28.3% 117 10 7.76 5 44

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S&P 1500

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Top Winner


Top Losers The two costliest names by P&L attribution, Na-tionstar Mortgage and Sarepta Therapeutics, were among the highest-concentrated hedge fund bets as measured by percent of shares outstanding held by funds. Except for some pharmaceutical stocks

that tumbled because of negative news related to drug trials, the other top losers tended to be affected by lower-than-expected quarterly financial results in Q3 and plunged from their recent highs.

Position Label Ticker

Quarterly Contribution

(bps)QTD

ReturnYTD

ReturnManager

Count

Change from 7/01

Value($B)

% of S.O.

% of ADV

NATIONSTARMORTGAGE HOLDINGS 1 NSM -8.5 -30.9% 25.4% 25 -5 4.162 81.88 9,530

SAREPTATHERAPEUTICS INC 2 SRPT -5.5 -69.6% -44.3% 21 1 1.197 74.80 1,331

EQUINIX INC 3 EQIX -3.1 -8.7% -18.7% 60 -10 5.324 54.11 3,029

TESLA MOTORS INC 4 TSLA -1.8 -30.0% 299.9% 38 1 0.902 3.83 45

ARIAPHARMACEUTICALS INC 5 ARIA -1.7 -86.5% -87.0% 25 -2 0.298 8.76 616

CISCO SYSTEMS INC 6 CSCO -1.7 -7.4% 12.1% 135 -14 3.439 2.73 430

CHARTERCOMMUNICATIONS INC 7 CHTR -1.6 -4.5% 68.8% 60 -5 5.345 38.54 4,615

EBAY INC 8 EBAY -1.4 -5.7% 3.1% 108 -13 3.771 5.16 717

PHARMACYCLICS INC 9 PCYC -1.3 -10.5% 114.2% 39 1 1.839 17.88 2,051

SANOFI 10 GCVRZ -1.2 -69.3% -63.5% 35 -8 0.269 0.20 34,707

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S&P 1500 Top Loser

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Holdings SpotlightFacebook (NASDAQ:FB)Facebook was the second-largest initiation in Q3, a new position for 53 managers, and was held by 137 managers at quarter end. Facebook is the worlds largest social media company, with more than one billion monthly active users around the world. Facebook has successfully monetized its mobile inventory this year, benefiting from the widespread use of smartphones and tablets. Mobile advertising revenue now accounts for approximately half of the total advertising revenue, as compared with an insignificant 10% in the same period in 2012. The rise of mobile advertising revenue brought over 50% higher top-line growth in 2013, while the in-troduction of video ads on Facebook and Instagram is expected to accelerate monetization and further boost growth. Nonetheless, in its Q3 conference call, the company remarked about some slowing of teenage user engagement and planned to hold off on increasing the load of advertisements in the network's news feed. The challenge for Facebook seems to be striking the right balance between its monetization pace and user engagement/ex-perience. Driven by its strong performance in the mobile segment, the share price had a nice run and almost doubled year-to-date.

Delta Air Lines (NYSE:DAL)Delta, up 138% year to date, was among the largest contributors of HFP in 2013 and was held by 90 managers at quarter end. Delta Air Lines is one of the largest U.S. airlines and comprises about 18% of the total domestic market. Recent industry consolidations, capacity cutbacks and tight cost controls are helping to put the U.S. airline industry on a flight path to recovery.Delta led the legacy carriers with a 138% year-to-date return. The company filed for bankruptcy in 2005, emerged in 2007 and merged with Northwest Airlines in 2008. Since emerging from bankrupt-cy, Delta has focused on paying down debt and improving its operations. In 2013, the company bought an oil refinery to control fuel costs, cut less-profitable regional flights of 50-seat jets and retrofit older airplanes instead of buying new air-craft. Helped by the tailwinds of higher air traffic and lower fuel costs, Delta has generated around

$2B in profits for the first three quarters of 2013. Since May, Delta has started to pay back inves-tors, launching regular dividend pay-outs and a stock buyback program. Due to its outstanding fundamental performance, Delta was added to the S&P 500 in September and was one of the largest quarter-to-date winners for hedge funds, among which David Tepper and George Soros benefited most, sitting on huge positions.

Nationstar Mortgage Holdings (NYSE:NSM)NSM shares fell 31% quarter-to-date and was the largest negative contributor of HFP, though it was still up 25% year-to-date. Nationstar Mortgageis a non-bank residential mortgage origination and servicing company based in Delaware. Saddled with the regulatory reform of mortgage markets since the subprime crisis, banks are exiting the mortgage business in large numbers, primarily because of high operating costs and heightened litigation risks. Unregulated non-bank competitors are purchasing mortgage portfolios from these banks and are consequently growing at explosive rates. Nationstar has undergone significant growth spurts after purchasing the majority of Bank of Americas servicing portfolio and partnering with KB Home (KBH) as its preferred mortgage lender. The historically low 30-year mortgage rate and improving housing market have also contributed significantly to the increasing volumes of refinanc-ing and purchase mortgages so far this year. Still, mortgage applications have declined over the past four weeks, as mortgage rates rose amid specula-tion about when the Federal Reserve will pull back QE3. Meanwhile, Nationstar posted Q3 financial results short of analysts forecasts and sharply slashed its earnings guidance for this year and 2014 because interest rates negatively impacted its volume and margins.

Sarepta Therapeutics (NASDAQ:SPRT)SPRT shares plunged 44% quarter to date and was the second largest detractors of HFP. Sarepta Ther-apeutics is a biopharmaceutical company whose lead product candidate, Eteplirsen, a treatment for Duchenne muscular dystrophy (DMD), is in Phase II clinical trials. In November, the Food and Drug


Administration (FDA) raised concerns about a recent promising study and considers a New Drug Appli-cation (NDA) filing as premature after a competing DMD drug failed in a Phase III trial. Sarepta's share price slipped more than 60% on the news and was the second-largest loser for hedge funds, especially hurting some healthcare specialists. On September 30, Sarepta still had $280 million cash, about half

its market capitalization. It could operate for three years without tapping external capital. Given strong support for Sarepta in the DMD community, the FDA will probably allow the start of a confirmatory Phase III trial in a large number of patients in the next two years. Such a trial should settle the debate and po-tentially generate $500 million in annual U.S. sales alone, if approved.

MANAGERS RAV DISTRIBUTIONManager's RAV Distribution

45

12 13

43

93

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112101

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160

0 20 30 50 100 200 500 1.000 2.000 5.000 15.000 30.000 50.000 70.000 RAV($MM)

Among 782 managers reporting holding informa-tion as of 9/30/2013, 280 had their reported asset value (RAV) clustered from $200MM to $1B. As in-stitutional investors prefer their alternative invest-ments in large hedge funds versus smaller players, we expect RAV distribution to shift rightward.

Largest Changes in Managers Reported Asset Value To screen for managers that experienced large shifts in reported asset values, we pulled the performance and holding information of managers with the highest increases and decreases in RAV compared to their previous reporting quarter (for those with at least $100MM RAV in the previous quarter).

Managers

RAV = Reported Asset Value


Multiple factors can lead to significant changes in reported asset value. Hedge funds can receive investors funding and allocate the new capital

to existing and new investments. In contrast, hedge funds are also subject to redemptions that can force them to liquidate their holdings. Man-

Institution RAV

GrowthRAV

($MM)Security Count

Top 10 Position

SizeAge

(Year)QTD

Return*YTD

Return*

ARROWPOINT ASSETMANAGEMENT, LLC** 885.39% 3,665 323 14.43% 3 5.11% 25.43%

CATAPULT CAPITALMANAGEMENT LLC 236.98% 809 234 17.64% 5 7.17% 32.34%

COLUMBUS HILLCAPITAL MANAGEMENT, L.P. 154.78% 1,876 39 69.62% 6 9.75% 42.39%

MARATHON ASSETMANAGEMENT, L.P. 126.47% 1,758 40 89.45% 9 8.52% 22.99%

SAB CAPITAL ADVISORS,L.L.C. 122.99% 825 13 97.23% 12 6.41% 16.04%

DAVIDSON KEMPNER CAPITAL MANAGEMENT, L.L.C. 111.07% 1,801 127 61.81% 14 4.58% 17.40%

PERCEPTIVE ADVISORS, LLC 100.60% 2,142 111 75.26% 11 -29.75% 16.72%

QUANTITATIVE INVESTMENT MANAGEMENT LLC 97.78% 1,123 526 32.19% 5 6.52% 24.90%

ANDOR CAPITALMANAGEMENT, L.L.C. 97.75% 1,345 34 65.14% 11 3.03% 37.54%

TOP MANAGERS WITH HIGHEST INCREASE IN REPORTED ASSET VALUE

*QTD and YTD returns are not actual returns but simulated based on public holdings

**Arrowpoint Asset Management is now a mutual fund business after buying Aster Investment Managements $2.9 billion in assets


agers can adjust their long exposure, an alloca-tion change between invested capital and cash, resulting in a significant change in reported AUM. Managers outstanding performance and sizable

profit reinvestment can also grow their reported AUM. Or, in contrast, managers suffering from bad investments can drop their reported AUM by equivalent losses.

Institution RAV

GrowthRAV

($MM)Security Count

Top 10 Position

SizeAge

(Year)QTD

Return*YTD

Return*

HIGHSIDE CAPITALMANAGEMENT, L.P. ** -100.00% - 0 0.00% 9 0.00% 22.92%

MANTICORE CAPITAL AB*** -100.00% - 0 0.00% 12 0.00% 22.49%

KARSCH CAPITALMANAGEMENT, L.P. -92.83% 84 24 59.00% 11 9.91% 31.10%

ALPHABET MANAGEMENT, LLC -69.23% 673 304 35.17% 4 8.99% 36.29%

FORE RESEARCH& MANAGEMENT, LP -63.10% 1,596 46 76.32% 8 0.40% 10.97%

ARTIS CAPITALMANAGEMENT L.P. -61.03% 47 12 99.77% 9 -5.97% -36.09%

S SQUARED TECHNOLOGY, LLC -60.93% 79 44 59.14% 14 -1.94% 41.94%

BREVAN HOWARD ASSET MANAGEMENT, L.L.P. -60.83% 232 34 58.94% 7 -0.13% -8.50%

MARATHON PARTNERS -59.50% 169 24 77.33% 9 10.09% 36.00%

ROBOTTI & COMPANYADVISORS, LLC -59.47% 169 25 77.23% 11 10.06% 35.91%

TOP 10 MANAGERS WITH HIGHEST DECREASE IN REPORTED ASSET VALUE

*QTD and YTD returns are not actual returns but simulated based on public holdings

**The fund is liquidated

***Manticore no longer files as a separate entity and now files as part of Contour Asset Management.


Final ThoughtsAs the Fed continues to support a loose-money and low-rate environment, the U.S. economic re-covery is accelerating, and corporate earnings are poised to increase even further. With this earnings increase and multiple drift, U.S. stocks find them-selves in the middle of a secular bull market. In the absence of hedging, and with excellent selection skills, hedge funds have been able to fully capture upside and modestly outperform benchmarks on the long side. Still, despite the broad market rally, hedge fund managers are cautious in increasing their long exposure, as some are concerned that asset price levels are inflated by prolonged quanti-tative easing.

In Q3 2013, broad economic optimism boosted all industry sectors of HFP. Consumer Discretion-ary was the highest-contributing sector, driven by overweighting and outstanding security selection. Information Technology, Healthcare and Telecom-munications were also sweet spots for HFP, tops among the eight sectors out of ten that outper-

formed the S&P 1500 in Q3. As investing in hedge funds becomes more institutionalized and hedge funds need to expand to break even, we come to see managers seek opportunities in larger market cap stocks and report higher asset values.

The performance of indices of our top stocks against the benchmark shows divergent results. Interestingly, the top participation index lagged the benchmark consistently, while all other indices outperformed the benchmark since inception. Though the top value index outperformed the benchmark, its constituents dragged down the performance of HFP. The performance of the top interest index and the top conviction index greatly exceeded the S&P 1500, the latter with a much smaller drawdown and lower volatility. We will be closely watching the performance of these indices as the constituents change every quarter, and we will have stronger confidence in the robustness of their performance in terms of persistence and predictive power.


MethodologyFor the purpose of this study, we combined all reported long equity positions into a market val-ue-weighted portfolio Novus Hedge Fund Portfolio (HFP). Every disclosed long position known to Novus is included in the portfolio from the end of the quarter it was first reported until the end of the quarter it was closed, or until it was superseded by subsequent disclosure by the same manager. The portfolio was rebalanced quarterly to reflect any disclosure updates and priced monthly to calculate profit and loss (P&L) based on security price fluc-tuations. The value of each position was calculated based on the reported number of shares for each security and that security price. Exposures were calculated by taking the sum of the market values in a given category and dividing that by the sum of all market values for the given date. For example, to calculate exposure to Industrials on 12/31, we obtained the sum of all market values for positions reported in the Industrials sector and divided it by the sum of all positions on that day.

AssumptionsThis paper relies exclusively on publicly avail-able data; we assume it is correct.All trade theses outlined are based on public sources, are hypothetical, and may not correspond to actual manager theses on any particular trade. We as-sume all positions filed as of September 30 were initiated on September 30 to calculate P&L for the following holding period. The exact time the posi-tions were initiated is not reported, so we assume trades took place at the end of the last trading day at quarter end. When a long position falls be-low the public reporting threshold or drops from subsequent disclosure documents, we consider it a fully covered position and remove it from the managers portfolio even though a manager might still be long the security. If a manager does not report a position as covered, we assume they are

still long the latest reported value. If a manager was long a security on the ex-dividend date, we assume the manager bought additional shares of the underlying security to reinvest the dividend. In instances where this paper references short disclosure, such disclosure comes from short public disclosure in the Novus Global Holding Database but is not included in the Novus Hedge Fund Portfolio.

Limitations There are known limitations to the holding data. Because most shortpositions are not required to be reported nor to be publicly disclosed, we leave out short positions for the purposes of this analysis. The lack of short side also limits the transparency of merger arbitrage trades or hedging trades. Disclosure is limited to equity and cer-tain derivative instruments, so only a portion of managers long exposure may be available, which excludes the insight on synthetic positions through the use of some derivate contracts. The data only reveal holding changes on a quarterly basis, and intra-filing turnover is not captured. The timeliness of the disclosure filing causes a lag in our analysis. For example, the majority of the equity holdings re-flects 13-F filings of positions owned as of Septem-ber 30, 2013, although most of these filings were not made public until mid-November 2013. Not all long positions need to be publicly disclosed, as certain thresholds apply. Only long positions that exceed 5% of outstanding ordinary and preferred shares of a company must be publicly disclosed in 13G/13D or under Japanese 5% Shareholders rule. Only managers with at least $100 million AUM have to file form 13-F. The long exposure calculated is not an exact absolute value but a relative statistic. The AUM of the selected hedge funds is estimated based on the total hedge funds AUM sourced from Hedge Fund Research (HFR).

NOVUSRESEARCH

TM

Stanley AltshullerChief Research Officer

[email protected]

Yuanjie ZhangResearch Associate

[email protected]

FOR MORE INFORMATION, CONTACT

NOVUS PARTNERS, INC.130 EAST 59TH STREETNEW YORK, NEW YORK 10022212-586-3030 www.novus.com

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