SPECIAL REPORT
Hedge fund manager profile: Steven A. Cohen By Kaushik Sudharsanam
POLITICS
FUNDAMENTALS
MARKETS
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CAREERS
the Analyst
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teve Cohen is one of the most revered money managers in the hedge fund business. He is the founder of S.A.C. Capital Partners, which manages over $14 billion in assets with an average annual return of around 40% since its inception back in 1992. As such, Cohen is regarded as one of the most formidable forces on Wall Street, and has been referred to in the past as both “A New Prince of Wall Street” and the “hedge fund king”. Cohen developed an interest in the markets at a tender age of 13, when he started to read the financial section of New York Post assiduously. “I was fascinated when I found out that these numbers were prices and they were changing every day,” he told Jack Schwager, author of the book, Stock Market Wizards – Interviews with America’s Top Stock Traders. He started following stock quotes regularly by hanging out at a local brokerage office. He studied Economics at the Wharton School of Business (University of Pennsylvania) where some of the more few useful knowledge he learned was the concept that 40% of a stock’s price movement was due to the market, 30% to the sector and 30% to the stock itself. Of course, the exact numbers are not something that is necessarily true, but it represented an idea that was conceptually sound enough for Cohen to believe in. Cohen then headed to Wall Street to become a junior trader at the trading firm, Gruntal & Co. On his first day, he made $8,000 for the firm and eventually went on to making around $100,000 a day. After a successful stint at Wall Street, he went on to start S.A.C Capital Partners in 1992. Beginning with a capital of $25 million, S.A.C has grown to become a multi billion dollar hedge with over $14 million in assets. Attracting investors has never been a problem, and his flagship fund is now closed to new invest-
ments. What is most impressive about S.A.C are the returns – an average annual return of around 40% a year adjusted for its hefty 50% incentive fee which is 2.5 times the hedge fund industry average. This means that the average annual profit have averaged around an astounding 90% a year. Cohen’s trading style relies on gut feel – an inner instinct which gives him a real sense of where the market is headed. Gut feel is a combination of experience and talent which Cohen developed through his years of placing thousands of trades. Laszlo Birinyi, President of Birinyi Associates Inc., an investment research firm in Connecticut, once said, “Cohen can absorb this huge amount of input and come out with music when most of us just come out with noise.” The most important attribute Cohen looks for in his traders is a ferocious appetite for risk, but also stresses the importance of discipline in cutting losses quickly when a trade goes sour. One of the questions he asked when looking for people is, “Tell me the some of the riskiest things you’ve ever done in your life,” he wants guys who have the confidence to be out there and be risk traders. He compiles statistics on his traders and his best trader only makes money on 63% of the time. So if traders are going to be wrong a lot of the time, it is essential they minimise their losses to a minimum whilst letting the good trades run in profi t. Cohen himself has made mistakes. In one situation he shorted IBM stocks expecting a negative earnings report. But his trade backfired when the stock rallied up $18 per share after the report’s release. Cohen however, acted immediately to cover his losses without rationalising his trade. Although he took a sizeable hit, had he waited till the morning the stock price would have gained another $10 against him. All traders make mistakes, but the best ones limit the damage quickly. In his interview for the book Stock Market Wizards by Jack D. Schwager, Cohen emphasized the importance of trading style. He said that each trader should experiment with differ-
ent trading styles and develop his own unique style suited to his personality. At S.A.C, Cohen oversaw around 40 teams of traders who specialise and trade in particular industries and products. They are paired up with research analysts who have a thorough understanding of the respective industries and products and the factors that move the stocks. He gives his traders the freedom to play as long as they abide by the firm’s trading discipline. Cohen’s primary technique consists of fast-paced trades based on market predictions and catalysts. His firm’s doctrine relies on informational edge obtaining new information and data before anybody else. Cohen has established this edge, through his flow of commissions, which has made him privileged to new trading and analyst information ahead of rivals. S.A.C on average pays securities firms 1 cent for every share it trades amounting to around $400 million in trading commissions each year. On a regular day, S.A.C alone accounts for about 2% of the overall stock market activity. A former S.A.C trader remarks, “Cohen’s presence, and market moving capability, is probably the largest of anyone on the Street.” The firm focuses on Long/Short equity, quantitative strategies, convertible and statistical arbitrage, and bets on interest rate and currency movements. He primarily used to focus on fastpaced momentum driven trades by moving in and out of positions rapidly. But over the years, S.A.C’s trading style has gradually changed in order to explore and adopt newer strategies. When too many traders start using the same strategy, the technique soon becomes exhausted and fails to make a profit. In fact, S.A.C sometimes makes headfake trades in order to disguise its true intentions and preventing rival funds from duplicating their strategies. Cohen is currently focusing on more long term stock picks with earnings growth as a major driver. Some of his stocks are held for several months or even years. Cohen has also installed psychiatrists in his firm whom he believes have a crucial role in the trading room. Co-