Malachite's off to a runaway start

December 29, 2016 01:00 PM
Absolute returns from relative value

In a year when hedge funds are again lagging the S&P 500 Index, managers Jacob Weinig and Joe Aiken have been quietly building a winner. The co-founders of New York-based Malachite Capital have steered their fund (year-to-date through October) to a return of 20.33%.

The secret, they say as a global derivative relative value fund, is the firm’s equal commitment to quantitative analysis and qualitative assessment; that, and a deep understanding of how to take advantage of pricing inefficiencies in derivative markets. Nearly three years in, the fund has returned 35.2%. Having launched with a little under $30 million in January 2014, assets have grown more than seven-fold.

Weinig, 34, graduated from Northwestern University with a degree in chemical engineering and spent three summers at Goldman Sachs as an intern. Before graduation, he accepted a job on the firm’s equities desk working with pension funds, endowments and foundations. He would later transition to its equity derivative desk where he guided investors on how to use equity derivative products in their portfolios. 

“I’ve learned how to use the inefficiencies in the derivatives world to create alpha and to provide the opportunity for our clients to gain exposure to risks that were uncorrelated to the rest of their portfolios,” Weinig says. “That translates to what we’re doing at Malachite.”

They have located an uncorrelated source of alpha that not many funds have been looking to capture. They’ve focused on global equity derivative products, and how we can go about taking advantage of the inefficiencies in the ways that these are priced. They work very well to create a market neutral or ‘vega’-neutral return stream.

Joe Aiken, 34, received an undergraduate degree in mathematics from York University and a Masters degree from Carnegie Mellon in computational finance. He started his career in equity derivative research at Citigroup. He soon became a credit trader, specializing in hybrid bonds, eventually leaving to join Goldman Sachs’s derivative business as a quant. The two linked up at Goldman in the aftermath of the 2008 financial crisis.

In the middle of 2009 some of the banks, Goldman in particular, had very good quarters for its trading desks. Many hedge funds were having difficulty and a lot of the trading had all but shut down.

Goldman paired up Weinig and Aiken on several of the products that the pair had been working on. The thinking was systematic trades could be packaged and merged into product that could be sold to institutional investors. 

Eventually, they believed this concept could be targeted toward a volatility strategy. Weinig says that typically volatility funds are thought to be synonymous with quantitative analysis, but argues that qualitative analysis must also play a critical role. “Understanding, on a qualitative level, the force driving the apparent dislocation is important for identifying investment opportunities. Not that we don’t value the quantitative aspect. We both have strong [quant] backgrounds.”

Weinig says they focus on the market forces creating new opportunities, how investors in different regions and products position themselves, the role of retail in creating price inefficiencies and the impact of regulation. He expects a lot of opportunity to emerge from the regulatory side. When banks are forced to drop products off of their balance sheet, it creates a fantastic risk reward proposition. The fund’s strategy doesn’t focus on large macro events like Brexit, the 2016 Election or Italy’s December referendum. 

“We’re taking advantage of dislocations in the pricing of derivative instruments,” Aiken says. “That means we’re not trying to make macro bets. That said, Aiken welcomes volatility. “Often times, chaos breeds inefficiency,” Aiken says. “Dislocations frequently arise in periods of market stress – and we’ve seen how severe headline risk is toward financial markets. If we get into a period where we have less accommodation from governments and from the central banks, while at the same time [have] increased [regulatory] pressure, it could create great opportunities for us.”

Given the firm’s performance during the Fed’s role in the markets during their first three years, it will be interesting to watch opportunities emerge for Malachite in the coming years.

About the Author

Garrett Baldwin is the Managing Editor of the Alpha Pages and the Features Editor of Modern Trader. An author and Baltimore native, he earned a BS in journalism from the Medill School at Northwestern University, an MA in Economic Policy (Security Studies) from The Johns Hopkins University, an MS in Agricultural Economics from Purdue University.