Bringing Long/Short Hedge Fund Strategies to ETFs | David Orr (Bonus Episode)
Timestamps are as accurate as they can be but may be slightly off. We encourage you to listen to the full context.
Podcast Summary
David Orr, hedge fund manager and portfolio manager of the ORR ETF, discusses his innovative approach to running both a traditional hedge fund and a long-short equity ETF. (01:10) Orr explains that hedge fund fees become incompatible with large assets under management due to their high cost and tax inefficiency, leading him to create the ETF as a more scalable solution. (01:31) The conversation covers the challenges of managing dual fiduciary responsibilities, ETF transparency concerns, and the operational differences between hedge funds and ETFs. (28:58) With the ETF growing to over $100 million in less than a year, Orr shares insights on liquidity management, regulatory compliance, and his vision for the future of active management in the ETF structure.
- Main Theme: The strategic evolution from traditional hedge fund structures to ETF vehicles for improved scalability, tax efficiency, and investor accessibility while maintaining active management principles.
Speakers
David Orr
David Orr is a hedge fund manager and portfolio manager of the ORR ETF (ticker: ORR), also known as the Milita ETF. He operates both a traditional hedge fund business and the innovative long-short equity ETF, making him one of the few managers running active strategies across both structures. Orr is known for his fundamental-based investment approach, particularly focusing on microcap Japanese stocks and illiquid opportunities that provide edge in the market.
Key Takeaways
ETF Structure Provides Superior Tax Efficiency and Scalability
Orr emphasizes that hedge fund fees become incompatible with large assets under management due to both cost and tax inefficiency. (01:31) ETFs offer significant advantages because investors can defer taxes for years if they don't sell and the fund avoids distributions. This creates a "golden handcuffs" situation where investors become rationally sticky to the investment due to tax implications, making it a more durable business model than traditional hedge funds which frequently shut down when their edge slips.
Performance-Oriented Funds Should Prioritize Value Creation Over Fee Generation
Rather than focusing purely on asset gathering for maximum fee generation, Orr advocates for maintaining smaller, higher-edge hedge funds alongside lower-fee ETF vehicles. (02:44) He argues that performance-oriented managers who care about adding value should focus on investment excellence rather than pure marketing, as this approach creates more robust, longer-lasting businesses that benefit both managers and investors.
Professional ETF Traders Achieve Superior Execution on Illiquid Securities
One of Orr's most surprising discoveries was how ETF market makers can execute large trades in illiquid stocks without market impact. (32:02) These professionals can trade up to 10% of daily volume while getting exact closing prices, something that would be nearly impossible for individual hedge fund managers. They achieve this through relationships with other market makers who maintain inventory positions, allowing for efficient block trading at minimal cost.
Transparency in ETFs May Actually Benefit Active Managers
While many worry about daily holdings transparency in ETFs, Orr sees potential advantages. (15:02) If investors copy existing positions, they push stocks in the manager's favor. For taxable investors, systematic copying doesn't make sense due to tax implications. Additionally, managers maintain information advantages and can employ strategies to mislead potential front-runners when building or exiting positions gradually.
Dual Structure Management Requires Careful Trade Coordination
Managing both hedge fund and ETF requires sophisticated trade management to avoid conflicts of interest. (29:29) Orr randomizes trade timing between vehicles and spaces them out over time to minimize market impact, ensuring neither side takes advantage of the other. This approach actually benefits both sets of investors by reducing liquidity issues compared to executing all trades simultaneously across both vehicles.
Statistics & Facts
- The ORR ETF reached over $100 million in assets under management in less than a year since launch. (25:42) This growth exceeded Orr's expectations, as he initially thought there was a 50% chance the ETF would fail entirely.
- The ETF has a breakeven point of approximately $20-25 million in assets under management due to annual costs of around $250,000. (27:06) This is higher than typical long-only ETFs which cost around $170,000 annually due to the additional complexity of long-short strategies.
- The current portfolio runs at approximately 135% long exposure with about 200% gross leverage. (11:12) Orr intends to maintain this leverage level even if brokers provide additional margin capacity, as he believes ETFs lose nimbleness compared to hedge funds at higher leverage levels.
