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THE WOLF OF WALL STREET, men, from left: Henry Zebrowski, P.J. Byrne, Leonardo DiCaprio, Jonah Hill,
THE WOLF OF WALL STREET, men, from left: Henry Zebrowski, P.J. Byrne, Leonardo DiCaprio, Jonah Hill, 2013.
Mary Cybulski/Paramount—©courtesy Everett Collection

Want to know why some money managers lag the market? More importantly, do you want to know which managers are likely to underperform?

Try looking them square in the eye — and check out the shape of their face.

Researchers from the University of Central Florida and Singapore Management University examined computerized measurements of more than 3,200 male investors' faces — specifically looking at hedge fund managers, and specifically looking for the width-to-height ratio of their heads.

Wider faces are associated with greater levels of testosterone, and the researchers wanted to know how the hormone affects investor performance.

With those measurements in hand, the researchers found that alpha male money managers with wider faces — in other words, investors with higher width-to-height ratios and more testosterone — trailed their counterparts with longer faces (and therefore less testosterone) by an annualized 5.8% per year.

According to the researchers, the gap in investment performance could not be explained by other differences related to their funds, such as fund size or age and incentives structures, among other variables.

Why Do Alpha Male Investors Underperform?

Investors with higher-than-average testosterone levels “trade more frequently [and] have a stronger preference for lottery-like stocks,” the researchers, Yan Lu and Melvyn Teo, wrote. In other words, they are more aggressive in that they swing for the fences and swing more often, which is sort of what you would expect based on their testosterone levels.

And years of academic research show that aggressive investing marked by frequent trading often leads to underperformance due to timing errors and trading costs, among other reasons.

High-testosterone also leads to other forms of risk, including a greater propensity for unethical behavior, according to the researchers.

For instance, the study found that high-testosterone managers are more likely to report civil and criminal violations on their Form ADVs, which advisers must submit to the Securities and Exchange Commission — detailing, among other things, any disciplinary issues against their firms or employees.

Compounding the situation, hedge fund managers who invest in other funds as part of their strategy also tend to select managers equally high in testosterone.

This side effect trickles down to underlying investors as well. Clients who pick alpha managers will also, more likely, have higher levels of testosterone. It’s one big hormone factory, bullying a sandbox that no one wants to play in.

Yet Another Reason to Be Wary of Hedge Funds

While the hedge fund study contributes to a body of research looking into testosterone's effect on financial decision making, it also adds to the debate over hedge funds themselves.

The weak performance of hedge funds have become a conversation of popular ribbing and disdain. The industry has returned 4.22% annually over the past five years, according to Hedge Fund Research, while the S&P 500 index returned 10.8%.

In 2007, Warren Buffett bet Protégé Partners that his S&P 500 index fund investment would outperform a basket of hedge funds, selected by the asset manager. By the end of 2016, Buffett saw 7.1% annual return while the hedge fund’s basket earned just 2.2%. The winnings, which ended up totaling about $2.2 million, according to The Wall Street Journal, went to the charity Girls Inc.

Even during a troublesome time – like the 2008 Recession – it didn’t pay all that well to have hedge fund exposure. Vanguard found that a typical 60/40 stock-to-bond portfolio fell 25% from Nov. 2007 to Feb. 2009. The Barclay’s Fund-of-Funds Index fell slightly less at 18%. But in the just under two years that followed, the 60/40 portfolio rebounded with a 17.9% jump, while the fund-of-funds index returned just 3%.

Despite the disappointing performance, total assets in hedge funds reached an all-time high of $3.22 trillion by the end of 2017.

But it begs the question: Do you really need to look at a hedge fund manager’s face to know you should probably stay away?