Eat your broccoli.
That’s the lesson from this week’s stunning shutdown at Infinity Q Diversified Alpha Fund. It is a $1.8 billion mutual fund that looked like a star performer by investing in derivatives meant to buck market trends.
The Securities and Exchange Commission, which regulates mutual funds, is investigating how Infinity Q valued complex assets that were about 18% of the fund. The agency suspended redemptions on Feb. 22.
That means investors can’t withdraw money until the fund sorts out what its assets are worth. Ultimately, clients could lose 20% or more of their money, estimates one investor. Infinity Q declined to comment on that number.
While we won’t know for some time what exactly happened at the fund, one thing is clear. Infinity Q is the latest in a long line of magical money machines that have claimed they could produce attractive returns on unconventional assets at lower risk than mainstream portfolios.
This fund sought to do that by investing much of its portfolio in swap contracts whose prices are derived from such multifaceted factors as how global stock markets, foreign currencies or other assets move in relation to each other.
Infinity Q’s marketing touted a portfolio that would generate positive returns that don’t move in sync with stocks or bonds and offer a smoother ride.
It was a seductive pitch. With stocks at record highs, bonds yielding next to nothing and memories of market crashes still raw, every investor would love nothing more than to be able to earn a decent return with little chance of loss.
All the better if that return comes from so-called alternative assets, or investments other than stocks and bonds. That way, investors might profit even if public markets take a pounding.
For a time, the pitch was a hit. Over the five years ended Dec. 31, the Infinity Q fund outperformed nearly 80% of its peers with much lower risk, according to
Infinity Q sailed smoothly through bumpy markets in 2016 and 2018 and even the pandemic panic of early 2020.
No wonder independent financial advisers, wealthy families and other investors poured $787 million into the fund over the 12 months ended last August, according to a regulatory filing.
Plus, Infinity Q touted its relationship with
chairman and founding partner of TPG, the private-equity giant with roughly $85 billion in assets. His family office, Wildcat Capital Management, backed Infinity Q and, according to people familiar with the matter, had about $100 million invested in the strategy.
A representative for Mr. Bonderman referred questions to Wildcat. In a statement, Wildcat said it was “shocked and disappointed” to learn of the SEC’s investigation, adding that the firm and its principals “have no day-to-day participation in the management or valuation of investments in funds managed by Infinity Q.”
Yet, in early 2019, Infinity Q’s website said “the investment team and control functions are largely the same for both Wildcat and Infinity Q.”
So investors in the Infinity fund were chasing the chimera of higher yield at lower risk, along with the reflected glow of investing alongside a billionaire.
The risk looked low, but it was lurking. The instruments at the heart of Infinity’s portfolio, which are tailor-made by investment banks, tend not to trade regularly. Infinity Q used a third-party pricing service to help determine what its derivatives are worth.
The fund’s prospectus says that when its pricing service “provides a valuation that in the judgment of the adviser does not represent the security’s fair value,” the manager may override that number—a standard warning in such disclosures.
According to the SEC, Infinity’s chief investment officer, James Velissaris, had been “adjusting certain parameters” used by the pricing service. As a result, many of the fund’s holdings appear to have been overpriced, although by how much isn’t yet known.
Mr. Velissaris has been placed on administrative leave, the fund said in a regulatory filing this week. Through a spokeswoman, he declined to comment.
The same pattern of purportedly low-risk strategies leading to a jolt of heartbreak has often repeated over the years, especially among investors who should know better.
Last year, pension funds lost billions on strategies that had long earned steady returns by betting against steep market declines.
Some of the world’s largest pensions and endowments were caught in a cash crunch in 2008 and 2009 when the smooth ride they’d been getting from their alternative investments turned rough.
Back in the 1980s and 1990s, bond funds that had reported seemingly placid performance from trading options and other advanced strategies ended up dealing devastating losses to their investors.
All this keeps happening because investors know they should eat their broccoli, but they reach for the chocolate cake instead.
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“We have goals,” one investor in the Infinity Q fund tells me, “and we want to hit those goals.”
Years ago, you could hit a reasonable return target just by holding a mix of stocks (which were cheaper) and bonds (which yielded more income).
Now that stocks are expensive and bonds yield so little, however, “people have to look for alternative ways of getting a similar risk and return profile,” says the investor.
Is that an illusion?
He pauses. “The other alternative is to say, ‘Our goal is unrealistic, so we need to cut our expectations.’ But that’s harder.”
It isn’t physically harder. It’s psychologically harder.
Nobody wants to hear that the most certain way to earn more from your investments in a low-interest-rate world is to save more and spend less. That’s as exciting as eating your broccoli—but it won’t leave you feeling sick.
Write to Jason Zweig at [email protected]
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