Star Hedge Fund fall reveals Brazil is at a crossroads

(Bloomberg) – Marcio Appel caused a sensation in the high-flying world of hedge funds five years ago and quickly became the child star of a capital markets revolution in Brazil.

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His Adam Macro pulled in more money than any other new hedge fund in the world that year. Overnight, Appel became a sought-after guru, hosting seminars with as many as 9,000 enthusiastic investors, including many middle-class Brazilians dipping a toe into the stock market for the first time. Traders from Goldman Sachs Group Inc., JPMorgan Chase & Co. and Banco Santander SA have followed suit, setting up their own funds in the hope of at least doubling their wages. In financial circles across the country, mass change has come to be known as the “Adam phenomenon”.

Half a decade later, after a 70% increase in the number of Brazilian hedge funds, the glory days are fading for the $ 280 billion industry. Assets under management of Adam Macro’s flagship fund plunged 90% from their peak against a backdrop of interest-free returns. Across the industry, investors have been withdrawing money at the fastest rate since 2017. Small businesses have combined in an attempt to stay alive, and more consolidation may be underway.

The biggest change from the go-go days is that Brazil’s benchmark interest rate has climbed to 7.75%, with traders setting a peak of 12% by 2023, meaning investors can earn big returns by simply buying low risk government bonds. Meanwhile, forecasts of lackluster economic growth and political volatility as President Jair Bolsonaro seeks re-election next year have prompted investors to seek safer options. Add to that the high fees charged by hedge funds, not to mention the poor performance for most of them, and it becomes increasingly difficult to justify this type of investment.

“Investors are afraid and leave high-risk funds,” said Claudia Emiko Yoshinaga, professor of finance at Fundacao Getulio Vargas, a university and research institute in Sao Paulo. “Brazilian investors have anticipated the turbulence of next year and returned to bonds, which are in their DNA.”

The radical change is disrupting Brazil’s financial industry. Investors’ shift to fixed income is doomed to reduce income and could make it more difficult for hedge fund operators to retain all of the talent attracted to banks in recent years. While a hedge fund typically charges a 2% commission on assets under management plus a 20% performance fee, credit funds charge around 0.8% on average, often without any performance fee.

For Adam Capital, the reshuffle has meant that its flagship fund now holds just 1.22 billion reais ($ 216 million) in assets, up from 12.7 billion reais at its 2018 peak. In the past year, it has recorded more exits than a group of 240 similar hedge funds in Brazil, according to data compiled by Bloomberg.

Adam Capital is perhaps the most striking case, but he is not the only one to see money coming out of its doors. Funds like JGP Strategy and Kinea Chronos also saw their holdings drop by more than R $ 3 billion each. They share a common story: All have experienced a growth spurt in recent years, followed by mediocre returns.

“While the financial education process has evolved a lot in Brazil, ultimately performance is still what matters most,” said Nelson Muscari, who covers funds for local broker Guide Investimentos.

The performance of the Adam Macro Fund started off strong, beating most of its peers in its early years, but returns have since fizzled out. From its inception in 2016 until today, the fund has grown 58% after-fee, while benchmark risk-free deposit rate returns totaled 44% over the same period and a basket of peers, the IHFA index, is up 61%.

When the Adam Macro Fund debuted in early 2016, Brazil was going through the worst recession in its history and then President Dilma Rousseff was in the middle of an impeachment trial. Interest rates were 14.25%, among the highest in the world.

Amid the turmoil, a change once in a generation was occurring in the local investment industry.

For decades, hedge funds in Brazil were only accessible to the ultra-rich, sold through private bankers and wealth managers, with high minimum investments. Then came companies like XP Inc., a group of retail-focused brokerage houses inspired by Charles Schwab Corp. who started offering these products to middle class investors. They called themselves “financial supermarkets” and Adam Capital funds were among the first to gain ground as interest rates started to fall at the end of 2016.

It was not only the timing that benefited the new firm, but Appel’s past credentials as well.

After having headed the asset management division of the Brazilian unit of Banco Santander from 2001 to 2008, he joined the same function at Banco Safra SA. It was there that he built a reputation among some of the richest investors in the country thanks to the performance of his Galileo fund. During his nearly five-year stint at Safra, which ended in 2015, he climbed nearly 200%.

The following year, he created Adam Capital alongside his former colleague Andre Salgado. The company has rented an office in the upscale district of Leblon in Rio de Janeiro. Salgado, 48, takes care of client relations, while App, 49, oversees the fund’s investment decisions. In addition to flagship product Adam Macro, the company also manages two other hedge funds and a pension fund.

Although Adam started strong, the fund failed to keep up with the long-term record that Appel set at Galileo, said Luiz Felippo, partner and fund analyst at Nord Research, an independent research firm based in Sao Paulo.

“The performance was somewhat disappointing, while other new hedge funds generated better returns,” he said.

Adam Capital officials declined to comment for this story. But in a podcast in April 2020, Appel acknowledged the challenges.

“The truth is, only a few companies are as good as having your own asset manager,” Appel said at the time. “The hardest part is providing feedback over a long period of time. “

The big question now is how many new hedge funds will last. About 60% of those that existed in Brazil in 2010 are no longer there by 2021, according to Nord Research.

Among those that have managed to survive, there are companies that have always managed to make money through the many ups and downs of the Brazilian economy. One of the pioneers of the local industry, Luis Stuhlberger, has managed his hedge fund Verde since 1997. It has generated a return of 18,376% since its inception and remains one of the most coveted products in the investment industry. in Brazil.

In the short term, Adam’s fund improved its performance. It recorded its best month in three years in October, surpassing some of its main rivals. The fund has positions that should benefit from the strength of the US economy, Adam said in his latest note to clients.

After the boom of the past five years, the Brazilian hedge fund industry is changing, just as it is becoming increasingly difficult to outperform local bonds, according to Felippo de Nord.

“A lot of these new companies have been riding the Brazilian rate cut, but now they are facing a worse environment,” Felippo said. “Money is running out.”

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