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Hedge Funds and Love

Hedge Funds have become ubiquitous in today’s pop culture according to the NY Times. They use this snippet from the long running soap opera “All My Children” as proof:

Soft light gently illuminates two former lovers, eyes only for each other, as they stand on a balcony on a warm, starry night.”Love isn’t like a hedge fund, you know?” Ryan tells Kendall. “You can’t have all your money in one investment, and if it looks a little shaky, you can’t just buy into something that looks a little bit safer.”

Obviously, the writers have no idea what a hedge fund is; they probably assume that it’s where all the stock brokers work. What they should say is that love isn’t like a non-diversified traditional long-only fund.

In reality, love is exactly like a hedge fund. Love is a limited partnership structure (LP), it takes a large initial investment, and is largely unregulated. Frequently, it uses an aggressive strategy, relying on large directional bets and substantial amounts of leverage. The plan is to generate significant alpha (using the Lipper Love Average as a benchmark) but it is not uncommon to see a hedge fund or a love relationship with an unsuitably low Sortino ratio, indicating that it has strayed from it’s raison d’etre. This is a hedge fund (marriage) destined for fund outflows (divorce).

Love is relatively illiquid, such that if it takes on large speculative investments, and develops into something like a live-in relationship or marriage, there will be a lock-up period. This is where derivatives and hedging come into play. According to our possibly fabricated research, the married put was developed specifically for use in reducing the downside risk in instititional marriage markets.

It floors your downside, and there is unlimited upside; if the love falters or a better substitute arrives, you can walk away with no marginal pain. The best hedge funds just as the best marriages understand risk management and create an environment where downside protection is a given.

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