Activist hedge funds have become capital market and financial media darlings. The Economist famously called them “capitalism’s unlikely heroes” in a cover story, and the FT published an article saying we “should welcome” them.
Activist Hedge Funds Aren’t Good for Companies or Investors, So Why Do They Exist?
Despite underwhelming returns, investors keep giving them money.
August 20, 2018
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Summary.
Every CEO dreads interference from an activist hedge fund investor. During a median holding period of only 423 unpleasant days, activists reduce employee headcount by an average of 12%, while R&D gets cut by more than half. It’s supposed to be great for investors, but activist interference doesn’t usually result in higher returns. And in fact, a comprehensive study has shown that total shareholder return is weaker under these hedge funds than it is under a simple index fund. Hedge funds also charge investors hefty fees, which further eats into their lackluster returns. Since the results are underwhelming, why do activist hedge funds exist? Why do investors keep giving them money? Basically in hopes that they will do one thing: sell the company. Because most acquiring companies overpay for acquisitions, this one-off event can create huge returns for investors. The fact that most mergers fail? A detail for CEOs to worry about later.