On Monday, April 17, Simon Lorne spoke with University of Arizona Law students and faculty as the concluding speaker in the Mundheim Speaker Series. Lorne is vice chairman and chief legal officer at Millennium Management, LLC, a hedge fund that manages approximately $35 billion of assets. Lorne was previously a partner at Munger, Tolles & Olson and a managing director at Salomon Brothers.
Lorne began by explaining what a hedge fund is, noting that the term is often misunderstood and misused, even by members of the media.
Lorne explained that a hedge fund is “focused on taking both long positions and short positions simultaneously to reduce the risk. The classic example is being long Ford and short General Motors, and that eliminates the risk of the automotive industry.”
He added that, “The investment analysis you’re making . . . is that your long firm will do better than the short firm, so that if they both go down, one will go down more, and if they both go up, one will go up more, and you’ll make that difference. You won’t make the big movements, you won’t get 30 percent returns in a year, but you’ll make some incremental profits on your trades generally.”
Lorne then went into detail about Millennium Management’s hedge fund business. He described how Millennium makes between four and five million securities trades each day based on data derived from complex algorithms.
Despite the significant number of trades Millennium makes, Lorne said, “We don’t consider ourselves high-frequency traders. There are people who would think that anything you do four million times a day is being done frequently.”
He explained that, “The real high-frequency traders are setting up microwave relays between Chicago and New York, because that’s faster than a fiber optic network between Chicago and New York.” Those traders are able to make trades in a matter of milliseconds.
Millennium, however, “decided relatively early in that game that it was just too much money for the limited benefit,” he said.
Lorne addressed questions regarding the lucrative compensation packages hedge fund managers often receive. He explained that the typical hedge fund fee is 2 percent of assets under management and 20 percent of profits.
Lorne said he believes that reported earnings for hedge fund managers are often misleading, because managers frequently have significant amounts of their own money invested in the fund. Reports of earnings for managers often “add together what the manager got from the 2 percent, what the manager got from the 20 percent of profits, and what the manager got as the manager’s share of funds total profits [from what the manager had personally invested in the fund],” Lorne said.
Even considering only the 2 percent and 20 percent fees, manager earnings can still be hundreds of millions of dollars. Lorne acknowledged this, stating, “That’s why we don’t argue very much about [reported earnings].”
He recounted an instance a few years ago when he told a manager at Millennium, “‘They reported that you made $700 million last year. How are you going to go out and argue that you really didn’t make $700 million, you made $200 million?’ You don’t get a lot of traction with that argument.”
Regardless, Lorne noted that if a firm produces sustained returns for a period of years, investors tend to tolerate the fees.