The Story of the First Ever Hedge FundAuthor: Seb Constantine
There is no real consensus about who invented the first ever hedge fund. While some believe it to have been Alfred Winslow Jones, others believe it to have been Benjamin Graham. So in this article, we’ll be looking at both men, and whose claim is stronger.
Alfred Winslow Jones
Tradition has it that Alfred W. Jones was the first person to come up with the term ‘hedged fund’, from which we get the modern version. What he meant by this was a fund people could invest in which was free of risk. From this theory, Jones built a whole structure – akin to the traditional infrastructure of today’s hedge funds – and used his calculations to invest as well as hedging for any potential losses.
Though he’s credited as being the inventor of the first Hedge Fund, it’s worth noting that history shows that Jones was actually more of an intellectual than a financier. After first finishing a degree at Harvard and then later a Ph.D. in Sociology, the idea for his ‘Hedged fund’ was first printed in Fortune. Having worked for them full-time but then leaving to work freelance, the theory first came to him while researching for an article called ‘Fashions in Forecasting’. His research into technical stock market analysis was the trigger for his new idea. According to his way of thinking, the technical analysis he had done, research into was inconsistent at predicting trends in the market. It was simply too risky, and he realized there must be another way to minimize the risks attached to investors.
Instead of using technical analysis, he suggested that a fund manager could use two techniques simultaneously: they could buy stocks with a margin while, at the same time, shorting other stocks they had already bought. While on their own, both tactics would be risky and dependent on speculation, together he thought they would make the investment portfolio less risky and more successful.
Just like in many other industries (not excluding virtual data rooms), sometimes, it is rather more important who brings the concept to life then who invents it.
But it took until 1949 for Jones to put his theory into practice. After scraping together around $100,000, Jones’ plan was to cut the risks he was making on long-term stocks through short selling, where necessary, any stocks which the fund was running which weren’t performing as well as hoped. But he didn’t get it right straight away, and it took trial and error before he realized it would be necessary to use a limited partnership model to run the fund, rather than a general one. Though the fund had a remarkable track record during its first twelve or so years, spawning a second fund, like many trendsetters, Jones was only recognized for his contribution to the industry in the 1960s, Since then he has become known as the Father of Hedge Funds.
However, it is worth stating too that there is a crucial difference between Jones’ theory of a ‘Hedged fund’ and a ‘Hedge fund’, since he believed his fund’s being ‘hedged’, i.e. safe, was its most important feature. In fact, many of today’s hedge funds are not regulated like Jones’, though they may also have a structure which still compensates its managers on the basis of strong investment performance.
The main supporter of Graham’s role as the first ever hedge fund manager and inventor is Warren Buffett, the world’s most successful investor, who is himself worth $66.7 billion, and was one of Graham’s underlings. According to Buffett, ‘Ben Graham managed a hedge fund in the mid-1920s […] It involved a partnership structure, a percentage-of-profits compensation arrangement for Ben as a general partner, a number of limited partners and a variety of long and short positions.’
According to Buffett, Graham and his colleague Jerry Newman invented not one but two companies, decades before Jones had, both of which had all the characteristics of a standard hedge fund.
Buffett claims that when he started up his own fund, way back in 1956, he took inspiration from the partnership which his mentor, Graham, had been running. That being said, Buffett has since rescinded his claim that Graham’s was the first hedge fund in existence, stating instead that it was simply the first he had heard of, meaning it looks like a convincing victory for Jones.