By Nick Evans
"The pessimist sees difficulty in every opportunity; the optimist sees opportunity in every difficulty" Winston Churchill
The great man did not always get everything right. But he got the big calls right. And he certainly had what it takes to deal with challenging times.
At the start of a year where optimism and pessimism are in equal measure at a big-picture level, what lies ahead for the hedge fund industry after its worst ever year in 2008 and arguably its best ever year in 2009?
Uncertainty is everywhere - about inflation/deflation, about economic recovery versus renewed recession, about interest rates, about equity markets, about the financial system, and about politics and elections, and about the future course of financial regulation.
By rights, all of that should bode well for hedge funds - so long as they stick to the script in terms of managing risk as well as maximising opportunity.
The powerful rally in risk assets from May last year was a golden opportunity for managers to make good some of their losses from 2008. Most did so - but many will have done so just by being long of rising markets. And it may take the return of more unsettled markets to see once again who has been lucky and who has been skilful.
But the case for absolute return, hedge fund-style investing has surely never been stronger. And, despite the hammering that it has endured, the hedge fund industry looks to be emerging from the crisis with its reputation enhanced rather than diminished.
A few obvious points stand out. Hedge funds did not seek any government/taxpayer bailouts. They did not employ the insane levels of leverage that brought the banking and investment banking system crashing down.
They generally did their best to protect investors on the downside in 2008 - except in those regrettable and self-destructive cases where an instinct for self-preservation superseded managers' sense of duty to those whose money they were managing.
And they generally managed to ride the upside in 2009, making good money for investors and putting their businesses back onto a more secure, fee-earning footing for the future.
The signs look positive. Investor inflows are picking up again fast - not just into the big liquid areas like macro, long/short equity and credit, but into strategies like emerging markets, distressed and event-driven too. And there is also renewed interest in arbitrage strategies (such as fixed-income relative value, convertible arbitrage or risk/merger arb) where the prospects have been greatly improved by the retreat of bank prop capital.
The flow of new hedge fund launches is also accelerating - with some high-quality start-ups and an unprecedented amount of experienced talent looking to start new funds - and the capital-raising climate is warming up, albeit after an icy period.
And the UCITS framework could provide a massive spur to the process of convergence between the alternative and traditional investment worlds - offering a way for managers to broaden their investor bases through new distribution channels and for a wider range of investors to gain access to hedge fund-type investing strategies.
The growing institutionalisation of the industry - in terms of tougher standards, better transparency, a more stable investor base and a higher barrier to entry - is a good and generally welcome thing. But it will inevitably lead to greater concentration of assets by the more institutional investors in a relatively small number of big brand-name firms.
So it is equally important that the entrepreneurial spirit that has driven the hedge fund industry thus far is not lost in the process - and that investors also continue to back the early-stage managers that often offer the best prospects for returns.
Much could go wrong - if the economy, the markets and the financial system were to go into another tailspin; if ham-fisted regulation were to be brought in; or if anything happened to create reputational damage for hedge funds in the public eye.
But, at a time when opportunity and danger are lurking everywhere, hedge fund-style investing looks to be a better bet than almost anything else.
nEuroHedge has a new design from this month. We hope you like it and would like to take this opportunity to wish all our readers and friends a happy and prosperous 2010.