Schonfeld Hedge Fund Gaining 14% in Year Starts Taking More Cash

(Bloomberg) -- In a plain, low-slung building along the Long Island Expressway, Steven Schonfeld huddled with two top lieutenants to make a pivotal decision after months of spirited debate: Remain a family office or morph into a hedge fund?

Schonfeld, Andrew Fishman and Ryan Tolkin agreed at the 2015 meeting to cede more control to regulators as a hedge fund so they could raise outside capital. Investors bought in. Schonfeld Strategic Advisors gathered about $1 billion in the first round starting last year on the back of market-beating returns and is opening its doors for a second time today for an additional $500 million.

Steven Schonfeld, 58, who made a fortune from a short-term trading firm he founded in 1988, remains the biggest client at his quant-heavy hedge fund. While other multi-strategy firms keep fund managers in-house, more than half of Schonfeld’s 55 teams are external. Fishman says the new capital will expand the global network, which spreads from Paris to South Korea to Texas, in search of fresh trading ideas to hit the return target of the investor who matters most.

“We run the firm like a hedge fund but we clearly have objectives that emanate from the fact that our heritage is a family office and we have one very, very, very large client,” Fishman, the president, said from the firm’s Park Avenue office. “Steven wants to make 20 percent a year, and do it at a 3 Sharpe” ratio, a measure of returns adjusted for volatility.

As the hedge fund industry has stumbled in recent years, Schonfeld’s main long-short strategies -- quantitative and fundamental equity -- have raced ahead. The strategies gained an annual average of 31 percent in the three years through 2016, according to an investor document seen by Bloomberg News, while multi-strategy rivals were up only 2 percent a year. This year Schonfeld returned 14 percent through September.

The hedge fund is guarded about its assets under management. The firm only reports long and short positions including leverage, which it says comes to $17.5 billion in gross market exposure. That’s more than double the $7 billion the hedge fund had when it first opened to outside money in January 2016. Managers use eight times leverage.

The company is taking in new capital with an eye toward Europe. Tolkin, the chief investment officer, says now is an opportune time to expand in Europe, where banks are disbanding proprietary trading desks. The firm plans to increase investments in developed markets, bringing its international holdings to 35 percent of the portfolio from 20 percent.

“Both to grow our existing talent as well as recruit new talent, supplemental capital will be helpful,” Tolkin said. “You don’t want to just grow for the sake of growing because that could actually negatively impact your risk-adjusted returns.”

Quant Teams Lead

Systematic quant teams, which deploy 65 percent of the total capital, are leading the growth. To recruit scientists and engineers into external teams, the hedge fund gives them a lot of independence. The quants develop their own strategies and keep their intellectual property. The firm gives them investment capital and operating expenses, and together they set return targets. 

Schonfeld lured a team of quants from Societe Generale SA earlier this year to trade equities and futures in Paris. The hedge fund’s 18 computer-driven groups use machine-learning tools and may share data sets with each other but keep the details of strategies to themselves. The firm says it expects to add three more such groups in the next two years.

Tolkin says having teams in London, Singapore and Hong Kong as well as many cities across the U.S. provides a greater mix of investment ideas. That lowers volatility and improves risk-adjusted returns.

“People trained in different countries think differently,” he said. “How you look at a problem depends on how you are trained. Physicists look at the world differently than mathematicians.”

High Fees

Schonfeld investors pay a price for that diversity. In place of a set fee, the hedge fund requires investors, including Steven, to pay its total operating costs. Fishman says that amounts to more than the standard 2 percent management fee and 20 percent incentive charge.

“The quants tend to be larger teams, more expensive teams -- not just the personnel but technological investment, data investment -- and to do that you need to support them with the right gross market exposure,” he said.

Stephen Cash and Adrian Sisser, former classmates at Carnegie Mellon’s computational finance program who worked as quants on Wall Street, started trading with Schonfeld in 2013. They were attracted by the freedom to hire employees, create a workplace culture and co-invest in their own AI-driven strategy -- all with Schonfeld’s back-office support and capital.

“When we started, we literally laid the floor down ourselves and we built the desks with our own hands,” Cash said. “We like to build things.”

Steven’s 20%

The duo’s New York firm, Seven Eight Capital, quickly grew and now has about 12 investment staffers running $1.75 billion in gross market exposure, including new wagers in Europe this year. Schonfeld’s managers can earn above-market performance fees as long as they deliver strong risk-adjusted returns.

“We all know that we’re in this to make money and there’s certainly places where you can go hide and don’t have to make money,” Sisser said. “I don’t think Schonfeld is one of those. But I like that, that’s why I want to be here.”

As the firm raises more money from family offices and wealthy clients, the roughly equal balance today between Steven’s money and outside capital may tip away from the firm’s namesake. That’s OK, as long as Steven gets his 20 percent return. But Fishman and Tolkin have no desire to become another hedge fund Goliath.

“I don’t think opportunities to invest will be endless as we are running into constantly constrained strategies,” Tolkin said. “There’ll be limited opportunities in the future.”

To contact the reporters on this story: Ivan Levingston in Boston at ilevingston@bloomberg.net, Vincent Bielski in New York at vbielski@bloomberg.net.

To contact the editors responsible for this story: Margaret Collins at mcollins45@bloomberg.net, Josh Friedman

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