The SAT discussion

Being from Europe I haven’t even got a clue what the SAT is, but I found this article which you may find interesting. What SAT Scores Say About Your Hedge Fund By MARK HULBERT Published: September 9, 2007 IF investors want a performance edge in their hedge funds, they may want to do a little background research on the managers: look for those who attended colleges with relatively high SAT scores. Funds run by such managers regularly posted higher returns, according to a study, “Investing in Talents: Manager Characteristics and Hedge Fund Performances,” which has been circulating since May as an academic working paper. Its authors are Haitao Li, an assistant professor of finance at the University of Michigan; Xiaoyan Zhang, an assistant professor of finance at Cornell; and Rui Zhao, a research associate in the portfolio management group of BlackRock Inc., the asset management company. A version is at To investigate the relationship between hedge fund returns and the academic credentials of their managers’ colleges, the researchers focused on more than 4,000 hedge funds that operated at some point from 1994 to 2003. They built a database that included not only the performance of each fund, but also the average combined SAT score, verbal and math, of the undergraduate college or university of the fund’s lead manager. After eliminating funds for which requisite data were unavailable, the database contained just over 1,000 funds. The researchers found a “strong positive relation” between a hedge fund’s performance and the average SAT score at its manager’s school. To put the relationship into context, the researchers offer this illustration: “Everything else being the same, a manager from an undergraduate institution with a 200-point higher SAT — for instance, from Yale University, with an SAT of 1480 at the end of our study period, instead of from George Washington University, with an SAT of 1280 — can expect to earn 0.73 percent more per year.” This higher return might not be all that noteworthy had it been produced with markedly higher risk. But the researchers were able to dismiss this possibility: the average hedge fund managed by someone who went to an institution with higher SAT scores incurred significantly less risk than one whose lead manager attended an institution with lower average scores. So, on a risk-adjusted basis, the manager who went to the school with higher scores is even further out front. What accounts for the researchers’ findings? In an interview, Professor Zhang said it was possible that managers who attended more-elite institutions had better contacts in the business and investment arenas, giving them access to particularly promising opportunities. But, though she and her fellow researchers could not measure the effect of such better networking, she said she suspects that it plays only a minor overall role. “The dominant force,” she contended, “will be the superior talents and higher intelligence levels of the average student at higher-SAT institutions.” One potential objection to the findings is that similar studies of mutual fund managers have found little correlation between their performance and their colleges’ SAT scores. But this difference between mutual funds and hedge funds makes sense, according to Professor Zhang, because of the ways their managers are compensated. THE pay of mutual fund managers is typically based solely on assets under management, she pointed out. So these managers have an incentive to let their funds grow beyond a size that they can manage profitably. This tends to eliminate the better performance that would otherwise be associated with attending a college with higher test scores, she argued. Hedge fund managers, by contrast, typically earn much more from sharing in their funds’ profits than from asset-based fees, according to Professor Zhang, at least when their funds are performing well. As a result, they have a strong incentive not to let their funds grow too big, so the test-score effect is not eliminated. The investment implication of the new research goes well beyond the hedge fund arena to the choice of any investment adviser. As the researchers conclude their study, “a manager’s talents and motivations should be important considerations” in deciding whether to let him or her invest your money.

This doesn’t surprise me. After all, people with higher SAT scores are “smarter”/“more prepared” in general and thus go to better schools. In fact, if you were to look at one single factor in the success of individuals, I would bet that the SAT is very high up the list. GPA doesn’t mean much to me…a 3.8 is easiliy attainable at most schools without even showing up to class if you are intelligent and understand the system.

Umm, don’t most studies point out that the vast majority of hedge funds fail to beat the market indexes on a risk-adjusted basis (correct me if I’m wrong)? Doesn’t that mean that the “smartest” people tell hedge funds to flush off?

Well, I think the article might be saying that hedge funds with the highest SAT scores outperform while others don’t? This would make sense…most HF’s suck, but the HF’s with the best people outperform. Looking at funds like D.E. Shaw, Renaissance, etc. I’d expect to see avg. SAT’s of probably 1500+.

Yeah, most HFs suck, but I’d place a pretty wager that the vast majority of HF managers have their origins in America’s top universities.

DE Shaw looks at your SAT/GMAT score when you apply there.

For those of you saying that most hedge funds suck, what basis do you have for making such a broad generalization? And I suppose I should contribute to the SAT score discussion, so I will say that I work for a successful hedge fund and my SAT score was what most would consider to be very high.

I don’t really think that most HF’s suck… but there’s a ton of HF’s and many are not that great, just as there are many that are very good. Just b/c it says “Hedge Fund” in the name doesn’t mean anything (except to the uninformed who think “Hedge Fund” has a lot of cache) - look at the returns of the universe of 8000+ HF’s and you will see that many do in fact suck…and I’m not talking about the well known funds that blow up every so often (LTCM, Amaranth, Bear Stearns, etc etc)…I’m talking about your general run-of-the-mill HF’s that don’t produce alpha and yet oftentimes charge excessive fees. HF’s are like any other segment of the IM universe…some firms are good and some suck. Those that are good have the best people (as the article above states)…I sure as hell hope that anyone who worked for a top-tier fund absolutely killed the SAT’s, otherwise why am I paying them top dollar to have them manage my money? (You may say, SAT score doesn’t matter, it’s about returns…my counter would be that those that produce excess returns all have absolutely top notch staff, which would mean people that shredded the SAT’s, went to the best schools, had the best pedigree/job exp leading up to working for the fund).

I think an interesting study would be one that examined only the Verbal SAT scores of investment managers. Obviously one can’t have an eye-popping score without high scores in both sections, but to me the math skills are a baseline possessed by most who pursue a career in finance. I find that in this industry a great deal of emphasis is placed upon hard technical skills such as those tested heavily in L1 and L2 in the CFA program. When I am picking stocks, however, it is my ability to extract a story and construct a thesis that produces real winning ideas. When you meet with company management or listen to a conference call, can you decide what is valuable and what is BS? I bet that ability is highly correlated with the Verbal SAT scores.

Tobias - I’d agree. 800 in Math doesn’t mean much if you can’t understand what’s being said in an earnings call/meeting with management, lol. I think you’d find though that most who are succesful probably are very strong in both math/verbal, unless you’re talking about the pure quant jocks, in which case verbal doesn’t mean much.

Yeah, of course the quants are in a whole different category.