Modern alpha is derived from superior business foresight, so for obvious reasons most large hedge funds sector-ize coverage. This leaves new analysts in the position of learning both 1) how to be a buy-sider and 2) how to understand a brand new industry.
I was on Maverick’s small cap team as a generalist from ‘09-‘12. I trafficked in easy to understand businesses. In March of ‘12 I was moved to the Healthcare team, and I was LOST. I’ll never forget going to the Barclays HC conf and thinking it sounded like a foreign language!!!
But we had a live book, I had to generate ideas, so I had to learn fast. This isn’t a one-size fits all approach (guidance from your PM is paramount for process adherence), but I figured sharing how i learned a new industry might help some others:
Step 1) Read sell-side primers, do teach-ins: Sell-side gets a lot of flack on the buy-side (“what is this doofus thinking downgrading this stock…”), but the right sell-sider is a true industry expert. Seek out and read as many industry primers as you can find.
Step 1, cont’d) I literally could not have done my job without reading (Lisa) Gill’s Guide to the Rx Channel. These can have a long shelf life. Josh Raskin, Justin Lake & Kevin Fischbeck came in for Industry Teach-Ins, which were valuable. Barc & UBS did great HC 101 days.
Step 2) Industry rags & data. Using sell-side gets you a general high level view, on par with other industry participants. To go deeper, find the relevant industry media (for me: Beckers Hospital, NEJM, Modern Healthcare, Inside Medicare Advantage, and Kaiser, to name a few).
Step 2, cont’d). Industry media/data is the raw material for a lot of sell-side publication, so get close to that information yourself (see who the sell-side primer cites) and manipulate the data in your own way, and detect shifts before they become sell-side consensus (too late)
Step 3) Read industry books. I came into HC post Obamacare passing but pre-implementation. Understanding the historical context of HC reform (i.e. why Hillary-care failed) was very helpful in ultimately forming views on upcoming debates. Look for CEO/Founder bios, policy books
Step 3 cont’d) to give you more historical flavor for the founding structures of the industry and the people involved. Ex. To understand the inherent tension between hospitals & HMOs, it was very helpful to understand the context of history.
Step 4) Find the 12 smartest people. Your alpha will come from making correct views on key industry debates. One that was relevant in ‘12 - “will large employers dump employees into the Obamacare Exchanges?” If yes, hospitals were a short, if no, hospitals were a long.
Step 4, cont’d) So how can a neophyte build a correct view on such a complex question? Have the humility to not know, but the ability to find the people who you believe have the answers. Certain CEOs, consultants, sell-siders, etc. Knowing who to believe is the difficult part.
Step 5) Study company history. This is time consuming. But expertise requires pattern recognition, i.e. what was tried in the past? What worked, what failed? How do you develop pattern recognition with no expertise? The wonderful part of public markets is that historical
Step 5, cont’d) info is archived. Go back and read the last 20 earnings transcripts. Go read the sell-side coverage from big moves up or down in the stock. Try to paint a picture of what has happened in those stocks and industries historically by reading about it.
Step 6) Narrow in on the key debates. Identify where the real controversy lies. The biggest trades are always where your view of the future differs materially from what is discounted in the stock (and if the bear case is baked in, can offer an exceptional R/R proposition)
Step 6, cont’d). So stock by stock, sub-industry by sub-industry, work to identify what you need to figure out to have a view on the stock. What would i have to believe for this stock to be a long or a short? Is Obama out to get Medicare Advantage (HUM short)? Is he not (long)?
Step 6, cont’d) and more importantly, what are the stocks discounting? HMO’s were a wonderful sector 2012-2015 because the market was discounting quite a bearish policy environment, that ultimately became benign (lesson from hillarycare saga- don’t mess w/ medicare advantage…)
Step 7) Settle into the “hedge fund hustle” With PM guidance, develop a process that accelerates your expertise. Thoughtful management interaction. Financial models that traces narratives to numbers. Dialogue w/ the sell-side, where appropriate. Network of other smart investors.
Your process will differ very much based on your fund, and this is just my experience. But for me, it worked incredibly well. So my best advice is to develop an intentional ramp plan with your PM that is incremental to your day to day responsibilities, and allocate a fixed #…
…of hours per week to becoming an industry expert. When controversy strikes, the stocks move violently, and a quick decision is required - you will you be paid for that accumulated knowledge. This is kind tip of the iceberg on ramping, so DM me for more if in this situation!!!