SEC 13-F Proposal Draws Attention To Copycat Funds

The SEC hasn’t updated it’s 13-F portfolio reporting requirements for over 40 years. It now new has a proposal on the table. Most investment managers would no longer need to report their holdings quarterly using the 13-F process. Some investors use this information to run copycat portfolios.

The $100 million asset reporting threshold for investment managers has changed from being a relatively high bar at its introduction, to now being a catch-all for most asset managers. The SEC proposing to the adjust the threshold for the growth in assets, setting it at $3.5 billion this would eliminate 9 out of 10 managers from needing to report, but ensure that 9 out 10 investment dollars remain covered by 13-Fs on the SEC’s estimates.

Risk Management

The logic is pretty clear. The SEC’s goal with 13-F reporting is primarily to manage potential risk in the investment system. It doesn’t need a broad set of reporting cover to do that, having the larger managers covered will suffice.

Copycat Funds

However, this reporting has side-effects. 13-F disclosure does enable others to see a periodic snapshot of what funds are holding, albeit typically with 45-day a lag from the end of the quarter. This has lead to some copycat processes being created, especially against funds that tend to be long-term holders of their investment positions. If you can see what a fund is holding, then you can replicate that exposure without paying the fees and essentially run a aggregate portfolio diversifying across the perceived best managers. Now it’s not perfect, the data comes with a lag and certain positions, such as derivatives, aren’t typically disclosed.

However, a few institutions do run copycat strategies reflecting this publicly available data. This theory has some support, researches at Novus Partners and Barclays, found that a variant of this strategy outperformed the S&P 500 by around 4% a year. However, not all agree. Others find limited useful information in 13-Fs finding that 13-F disclosures did drive trading, but not necessarily alpha. Part of the issue is that simply copying 13-F disclosures can lead to a portfolio that looks a lot like the market, so it’s important to filter for funds that tend to outperform and are holding their positions for more than a few weeks. Obviously, those algorithms are typically proprietary. Other research has argued that any really useful 13-Fs receive confidential treatment. There’s also some evidence that certain funds tend to window dress their holdings around quarter end, holding onto to winning stocks and dropping losing stocks. Though these aren’t necessarily the funds you would want to copy.

Front-Running

In theory, 13-F disclosures may offer a front-running opportunity too, where you see a major fund selling, or starting to build, a large holding. Though the data is published with a sufficient lag that this is potentially less of an issue. Again, evidence based on trading patterns suggests their may be such behavior, but it isn’t necessarily always profitable.

Upping the bar on 13-F requirements is not a wholesale change though. Holdings from many funds will still be periodically publicly disclosed in a different format via N-PORT filings, and, in certain cases, other documents such as Form 4 disclosures will yield insights into portfolio changes from very large investors too.

Big Names

Also, more prominent managers will still easily meet the new potentially higher bar for 13-F disclosure. For example, Warren Buffett’s Berkshire Hathaway

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will still file a 13-F after the proposed change. In terms of big-name investors, most are managing well over $3.5 billion and will continue to file 13-Fs.

So the change is a logical one, and will lift a reporting burden on smaller funds. Yet, it likely won’t stop certain copycat strategies. The big-name investors who garner most attention for their 13-Fs will still be reporting that information under the new proposals. Fundamentally, it’s unclear that copycat or front-running behavior using 13-F data consistently works, or if it does the magic may be in the algorithm parsing the information to pick which funds and holdings to emulate, not so much the 13-F itself.