Issue: June/July 2006
Future Directions for International Hedge Funds
at Investec Asset
major trends in the
and discusses why the
rise of the multi-strategy
fund could be particularly
The explosion in the international hedge-fund space
has seen a mushrooming in number to over 8 000
hedge funds, while over the past five years their
assets have doubled to $1,2 trillion. From such heady
growth, four trends are emerging to shape the
- Pressures of professionalisation;
- The drag of commoditisation;
- Rising indigestion, and
- Inevitable consolidation.
At present, retirement-fund trustees are making
modest allocations to hedge funds. Going forward,
fresh investment ways – multi-strategy hedge funds
and ‘new balanced’ funds – are gaining ground.
In 2002, when global equity and fixed income
markets were weak simultaneously, international
hedge funds gathered momentum (see graph).
This weakness reinforced the need for portfolio
diversification and hedge funds were seen as a
must-have component. Retirement funds have
entered into this area, albeit cautiously, with holdings
up to three percent on average.
Allow me to elaborate on the trends:
Although allocations by institutional investors have
been modest, their entry to this market (traditionally
dominated by high net worth individuals) has
encouraged professionalism. Institutions do more
due diligence and have demanded more
transparency, more information and more control
over adherence to the defined investment style.
This is a double-edged sword. It has seen more
money flow into the space, but some hedge fund
managers believe it is accompanied by handcuffs.
As Donald Putnam, now of Grail Partners, remarked
in Hedge Fund Journal: “We consider pension funds
a powerful disruptive influence on the hedge fund
In particularly short supply, invariably, are people
with investment talent. The explosion in the number
and size of funds means that finding them is now
like searching for a needle in a field of haystacks.
Outsourcing and prime-broking services means the
barriers to entry, for setting up hedge funds, have
fallen. Traditional managers get up and running in
a way well described by The Economist: “Unable to
get into established winners, investors are pouring
money into managers with no track record but good
Growth cannot continue exponentially. Not all
hedge fund managers will perform satisfactorily
or attract sufficient assets for economies of scale.
Retirement funds should be discerning to select
talent. Amongst the morass of wannabees, the cost
of great managers is rising.
Because they pay high fees for hedge fund
managers, investors have high expectations. The glut
of untested funds has begun to show. Over the past
few years, five percent of hedge funds do not made
an impact and fail each year. In the same way that
star-like profiles are given to hedge fund industry
performers, equal prominence will be given those
who inevitably will fail. Investors in hedge funds
should steel themselves, but take comfort that some
bad apples do not necessarily reflect the health of an
Inevitably, the next stage of this rapid growth is
consolidation. The best managers, who are doing
spectacularly well, will gain a lion’s share of assets at
higher fees. Mediocre managers will need to
consolidate to get to scale. This will not be an easy
process. KPMG Create’s hedge fund research team
reckons that, given the independence of hedge fund
managers, this consolidation will be more
‘Darwinian’ in nature. The result will be a stronger
hedge fund industry emerging to service investors.
What else can retirement fund trustees expect?
Already, we’re seeing a number of product
- Traditional managers are adopting hedge fund
thinking into their processes. There is a large
drive for ‘new balanced’, bringing hedge funds
and other alternatives into multi-asset funds so
that investors gain exposure and maximise
- With total costs under a spotlight, large hedge
fund managers are offering multi-strategy funds.
These are a cost-effective cluster of hedge funds
overseen by hedge fund managers close to their
markets. Circumventing hedge fund of fund
offerings, their entry point is proving popular.
Over the past three years they have seen a
remarkable 254 percent annualised growth, and
are certainly worth watching.
In a low-inflation, lower-interest rate environment,
retirement fund trustees should be realistic about the
performance targets that hedge funds can achieve.
On average, when compared with the 1990s, returns
have fallen. But as we see more volatility in global
markets, hedge funds will prove to be an important
component in investment strategy for retirement