With Galleon-gate now one week old, bloggers have been poring over the fund’s  annual returns.

The Pragmatic Capitalist for one, who has posted the Galleon numbers on his blog, smells a rat.“Gauging from the returns,” he writes, “I would be willing to bet the insider trading was going on for most of Galleon’s existence and was likely much more rampant than currently reported”.

Indeed, a dollar invested in Raj’s diversified fund in 1993 would be worth $25.13 after 2008, according to our calculations — a spectacular return by anyone’s standards, and one that at first glance would justify skepticism.

We already know that some large investors in hedge funds passed up the chance to give Raj their cash after due diligence failed to explain the fund’s “source of alpha”.

But, when one takes a closer look the  idea that Galleon’s returns were simply a result of illegal activity is hard to justify.

Yes, as the Pragmatic Capitalist points out, there was little “downside volatility” in the figures – i.e bad years. And at first glance some of the annual returns jump out — say, the 93 per cent annual return in 1999.

But that same year the Nasdaq returned 84 per cent, making Galleon’s performance look far less superhuman.

Again, in 2003, when Galleon returned 20.57 per cent to investors, the Nasdaq rose 54 per cent, making Raj’s year look pretty terrible.

In fact, it is unlikely that a fund like Galleon could generate even the majority of its returns through short term trades based on insider tips.

Raj and co had $7.3bn of assets under management. Managing a portfolio of $100m requires very different skills to managing $1bn.

Firstly, there are simply not enough investable special situations arising at any one time for a portfolio of that size.

Secondly, Galleon would be too big to allocate a large percentage of its assets into many of these situations without taking large and illiquid positions in the companies it was trading in.

What is more likely is that “an informational edge” was used to amplify returns, rather than create all, or even most of them.

Comparisons with Madoff, as Felix Salmon over at Reuters points out, are rather lazy.

Bernie’s returns were fictitious — his clients lost all of their life savings when the curtain came down. Galleon’s returns — as far as we know — are genuine and its clients will receive their money back on redemption — albeit with a liquidation-induced haircut.

If anyone is a winner in this situation, it is Raj’s long-term clients. They enjoyed excellent returns for relatively little risk. The risks, according to the FBI documents, were being taken by Rajaratnam — for he is the one who now faces a lengthy jail sentence if found guilty.

Related links:
The Galleon index – FT Alphaville
Rajaratnam alert: be afraid, be very afraid? – FT Alphaville
“Put ya money on Galleon” – Rajaratnam’s rap sheet – FT Alphaville

This entry was posted by Miles Johnson on Friday, October 23rd, 2009 at 10:50 and is filed under Hedge funds, People. Tagged with Galleon, madoff., Raj rajaratnam. Edit this entry.