JOSH FRIEDLANDER, EDITOR, ABSOLUTE RETURN
As this article’s title quote from Benjamin Franklin suggests, there is a tendency to overstate the value of movement for movement’s sake. This has been very true of the US hedge fund industry this year, during which there have been numerous new launches; yet most remain sad reminders that the golden days of rapid expansion and investor risk-taking have passed.
New firms are waiting longer and longer to launch, making the process ever more like an uncertain IPO road show rather than the debutante ball atmosphere of yesteryear. When these launches do occur, they highlight the disparity between the haves and have nots. Fewer new managers are entering the industry with substantial assets, while even among established firms only the largest are enjoying a healthy rate of expansion, though they certainly dominate in gleaning capital for new products.
For investors, it would appear, to be safe is far more important than to be novel or ambitious, with some notable exceptions. This was demonstrated by the results of Absolute Return’s recent survey of new funds launched in the Americas. While 34 funds raised $11 billion in the first half of the year, the Renaissance Diversified Alpha Fund accounted for nearly half of that total. The second largest fund, with $950 million under management at mid-year, was Encompass Capital, which spun out of and was seeded by Citadel.
Consider the implications: only one fund in the Americas raised $1 billion or more in the first half, and there are few billion-dollar launches on the horizon. Remember 2004, when 14 new funds raised more than $1 billion apiece? This year, to even reach a handful of billion-dollar launches, the second half would have to be outstanding.
“There’s no question it’s more challenging now than it’s ever been and that’s because the business has been institutionalised,” noted Joe Gieger, managing director for the Americas at $48 billion diversified asset manager GAM, when quoted for the survey. “Even in new funds, it really has to do with the amount of bandwidth the consulting organisations have to properly vet the organisation’s prior history.”
THE FATE OF FUNDRAISING
Many new managers are waiting ever longer to ensure they don’t launch with a pittance, a vote of low confidence that can injure further fundraising for years. Investors have historically ignored pedigree, infrastructure and even outperformance in younger managers when they sense that a firm might not be viable in the long run, logic that makes lepers of insubstantial launches. That fate is no longer rare. Through mid-year, only 16 of the 34 new funds launched had exceeded $100 million. Mind you, not all of these are new firms, but many were, and $100 million in capital is not nearly enough to accommodate larger investors nor enough to support institutional staffing.
This is not to say that fundraising is dead, but that investors appear to prefer new funds run by established managers, especially if they are chasing hot strategies – for instance, mortgage investing. As our feature story – ‘Hedge funds build on mortgage gains’ – noted, Cerberus Capital Management had raised $1.17 billion in a year for its new mortgage fund, while Candlewood Investment Group raised $500 million for its mortgage-heavy structured credit fund (bringing the January 2011 launch to $600 million) in the first half of the year.
The total sum of mortgage-related fundraising by large firms could not be precisely determined, but it has been enough to push mortgage fund assets at the 34 firms listed in the article to an average of 22% of their $239 billion in assets. All but one of these firms were established well before this year.
Before you reach for a stiff drink, be assured it’s too early to write off the archetypical young manager. There is still proof enough that the hedge fund industry can discover and nurture fresh talent. One need only contemplate the $650 million raised in the first half of the year by 29-year-old Jennifer Fan’s commodity shop Arbelet Capital. Or the $1.2 billion July launch of 37-year-old former Blue Ridge Capital Management partner Rick Gerson’s Falcon Edge Capital.
Gerson’s rollout, in particular, demonstrated the increasing value of connections in achieving a sizeable launch. A networking powerhouse like his brother Mark (who co-founded Gerson Lehrman Group), Rick Gerson formed a seven-person advisory board for Falcon Edge that includes billionaire distressed investor Sam Zell, Dubai moneyman H.E. Mohamed Alabbar, lawyer Marty Edelman, Silicon Valley financial advisor Divesh Makan, First Gulf Bank managing director H.E. Abdulhamid Saeed and private equity maven Barry Sternlicht. Talk about starting out with backing from friends and family!
But, despite standouts like Fan and Gerson, in the grand scheme, the money is flowing up. Billion Dollar Club firms based in the Americas (shops with $1 billion or more) managed $1.42 trillion as of 1 July. While the 50 largest firms increased assets by 3.17% in the first half of this year, the Club’s remaining member firms (excluding new entrants) increased assets by only 1.86% during that period.
For most large firms, the overall growth rate was less than the industry’s overall performance in the US, implying redemptions. Asset declines were widespread, with 36% of the American Billion Dollar Club down in the first half, and another 9% flat.
Widespread redemptions are not surprising. Performance this year has been as scorching as hour-old tea, though that is at least palatable compared with last year’s losses. Through July, the Absolute Return Composite Index was up 3.29% for the year, with 15 of the 16 underlying strategies in positive territory.
Only commodities funds were down through to July (-2.14%), with fearful predictions of a slowing or dying recovery sending raw materials tumbling. The largest single portion of the composite and of the industry – equity funds – were up 2.37% during that period, vastly underperforming the 11% rise of the S&P 500 Index to which our equity hedge fund index was 93% correlated.
With a gain of 8.47% through to July, mortgage funds were the best performing strategy, justifying their popularity, at least in the short term.
If mortgages are a bright spot, it’s because there is so much uncertainty and mediocrity this year that a strategy headed for a double-digit annual gain is a sizeable anomaly. Franklin’s advice is proving unnecessary. It’s easy to spot the action when there isn’t even much motion.
|Key stories from Absolute Return for YTD|
|Walker Smith to shut – 30 August 2012|
Founders Reid Walker and Stacy Smith cited the lack of permanent capital and a changed investment landscape
|Matt Grossman’s Plural to liquidate – 21 August 2012|
The SAC alum decides to close his firm, citing difficult markets and work-life balance
|Goldman Sachs, SkyBridge among Mitt Romney’s hedge fund bundlers – 14 August 2012|
The fundraisers behind Obama’s rival
|Pedigree holds no guarantee for new funds – 14 August 2012|
Some 34 Americas hedge funds raised $11 billion in the first half, but most of the money was clustered in a handful of managers
|Hedge funds build on mortgage gains – 31 July 2012|
Firms are piling into the MBS market and putting up lofty returns, but risks remain
|Taconic sheds $1 billion in first half despite early surge above high water mark – 26 July 2012|
Firm cautions that “macroeconomic setting for investing continues to be fraught with risk”
|Hedge funds show strength at mid-year; BlueMountain, Chilton, QIM among winners – 19 July 2012|
Some 65% of hedge funds were in the black for first half of 2012
|Hedge funds dive below high water marks again – 11 April 2012|
Only 38% of funds were above water in 2011, compared with 73% in 2010. With all the numbers in, the economic health of the industry was laid bare, with the toll of 2011 on firm income helping to explain the industry’s conservative stance heading into 2012… a defensiveness that remains
|Blue Ridge partner David Greenspan leaves, plots potential $1 billion launch – 3 April 2012|
The 12-year veteran of John Griffin’s firm took three staffers with him, hiring Plural Investments exec John Metzner as COO. His launch is expected in January 2013
|Passport falls short – 26 March 2012|
After falling in love with John Burbank’s big bets, some investors worried he had recently been running a not-so-risky business. In an in-depth feature, Absolute Return examined the successes and failures of Burbank’s post-crises rise and fall
|Fees fly for new funds – 14 March 2012|
Despite investors clamouring for lower fees, the best hedge funds continued to raise their rates, reasoning correctly that excellent management is a scarce and valuable resource
|Blackstone’s second seeding fund starts with a sputter – 21 February 2012|
All seven managers selected by $2.4 billion Blackstone Strategic Alliance II fell in its first calendar year
|2012 investor outlook: huge disparities, no shift to small funds – 18 January 2012|
Citi Private Bank, FRM, Liongate, Man Investments, Morgan Creek, Neuberger Berman, PAAMCO, Private Advisors, Silver Creek and others spoke out about their 2012 investment plans
|Nearly 60% of hedge funds lost money in 2011 – 9 January 2012|
The industry’s losses in 2011 were shallow but widespread