In a good book "The Prudent Investor's Guide to Hedge Funds" by James P. Owen there are some insights into what to look for in a long-short fund.
"Given all the confusion over hedge fund classifications and labels, it's worth taking a moment to make sure you'll know a Jones-model fund (or a pretender) when you see it. Managers may vary some elements of the original Jones model, but here are some of the essential characteristics that these funds share. A Jones-model fund is one that:
- Invests for absolute return, father than trying to beat the market or meet some arbitrary benchmark. A well-run Jones-model should be able to target annual returns in the neighborhood of 15 percent without use of leverage, or somewhat more if leverage is used. If the target return is more than 20 percent, that's a red flag that may indicate use of high degree of leverage or some other potentially risky techniques.
- Strives for "no down years." Clearly the emphasis is on avoiding losses above all.
- Generally, but bot always, maintains hedged positions. The proportion of long and short investments will vary (sometimes dramatically) with the manager's outlook on the market.
- Raises and lowers cash levels according to perceptions of the market's overall risk/reward characteristics.
- Is flexible, not limiting investments to a certain style, sector, or capitalization range; may blend both growth and value, for instance.
- Invests opportunistically, capitalizing on market inefficiencies.
- Views stock picking as the primary source of return.
- Makes decision in an entrepreneurial fashion. Decisions are usually made by just one or two senior people and not by a committee.
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May make concentrated investments. While some level of diversification is essential, Jones-model managers tend to focus on those themes, sectors, or companies in which conviction is highest.
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Tends to be small in size. Jones-style managers typically run between $50 million and $500 million. More than that, and they may have trouble generating enough good ideas to put all their assets to work.
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Stays away from inherently speculative strategies or techniques. While they may make moderate use of leverage or derivatives, as described above, a Jones-model manager with reasonable return objectives shouldn't have to engage in risky business. When it comes to exotic derivatives, currency trading, commodities, excessive leverage, or private placements, a true follower of Jones will just say "No."
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