InvestHedge Forum 2007
Venue: The British Museum
Dates: Tuesday, 18 September 2007
Wednesday, 19 September 2007
InvestHedge in association with EuroHedge delivered a programme that was geared towards the needs and concerns of investors who are increasingly driving the hedge fund industry's direction.
Over 500 leading figures in the hedge fund industry came together to discuss the key issues facing the industry.
Summer turmoil may stall but not stop hedge fund flows
More than 500 delegates gathered at the British Museum in London to discuss the long-term effects of the current markets
Commercial banks may be feeling more of the heat from the sub-prime market contagion than institutional hedge fund investors at the moment. Still, most institutions have a long way to go as they have only recently begun their hedge fund march.
The fragility and longevity of the First Emperor of China's Terracotta Army on exhibit at the British Museum set the backdrop as investors and managers discussed the impact of current market conditions on their portfolios at the InvestHedge Forum 2007.
In association with EuroHedge, the two-day conference on 18 and 19 September hosted more than 500 institutional investors, funds of hedge funds and hedge fund managers and their service providers, all eager to discuss the impact of the summer's turbulence on the industry's growth prospects.
The investor consensus, however, seems to be that credit market wobbles have generated new opportunities and these new investments are now in the process of being sourced. It was clear throughout the two-day event that hedge funds were here to stay and the real question was: In what form do institutional investors prefer to buy them?
The opening panel, made up of representatives from BlackRock, Credit Suisse Asset Management, RAB Capital, Hellman & Friedman and GLG Partners, discussed this very topic: "How will hedge funds fit into the asset management landscape of the future?" They agreed that recent hedge fund losses have had an impact on the industry. But the panellists believed that the proliferation of 130/30 portfolios, poor performance and convergent strategies all pose a challenge, and not a threat, to the fund of funds industry.
There will be lessons learned from the credit market problems and the quantitative model meltdown, said Emmanuel Roman of GLG Partners.
"I look at the traditional asset management business and I'm going to try and give them a run for their money," Roman said. GLG's recent listing in the UK and upcoming issuance in the US is part of the accumulation of permanent capital that may help firms such as GLG grow further and faster than their smaller counterparts.
Salvatore Cordaro at Credit Suisse believes that hedge fund managers' willingness to explore new markets will be part of their continuing lure to investors. He pointed out that hedge funds are a business model rather than an investment strategy.
Hedge funds traditionally are among the first to find new opportunities that in turn eliminate the capacity woes from the continuing capital influx from institutions. And the panel were all in agreement that convergence products in particular are going to be part of the future growth.
Patrick Healy, who handles private equity and hedge fund investment at Hellman & Friedman, said that under the overall theme of globalisation of alternatives, the concept of sector specialisation is likely to grow and increase investment within the private equity space via a number of instruments and minority investment stakes.
Institutional keynote: Chris Hitchen, Railway Pension Trustee Company
UK pension fund trustees need education
In his keynote address at the InvestHedge Forum, Chris Hitchen, chief executive of the Railways Pension Trustee Company, told investors not to be coloured by their past and to sit back and think about what they are trying to achieve and how much risk they are willing to take to achieve their return objectives.
A key aim of the conference was to give a chance for investors to learn about the hedge fund industry and what it offers, but also to tell product providers what it is that they are looking for. Wearing both his hat as the CEO of RailPen and that of the chairman of the National Association of Pension Funds, Hitchen was able to tell the captivated audience what was needed for the continued growth of institutional assets into hedge funds.
With total assets of $36.4 billion, the pension scheme for the UK's railway system invests roughly 10% of its assets with more than 80 hedge fund managers via fund of funds managers acting as gatekeepers to the direct investments in the portfolio. But, Hitchen highlighted that it took trustees five years to invest due to the lack of information on hedge funds that was met with trustee teach-ins.
"All our gatekeepers understand part of their job is educating us," said Hitchen. Should there be a problem with an underlying manager, he believes it would damage trustee confidence in the asset class, which is still in the process of being built up. Besides three US-based fund of funds firms acting as gatekeepers, RiskMetrics provides a snapshot of the portfolio's alpha generation and risk reduction success.
A recent survey of the 1,000 or so pension schemes that are part of the NAPF revealed that roughly 10% to 15% of plans have made initial allocations to hedge funds. The percentages are obviously smaller than in the US, where a greater number of pension plans have made sizable allocations to hedge funds. One of the key issues is that increasing such allocations simply takes time, according to Hitchen.
Panel session: The future of hedge funds
FoHFs continue to thrive, despite the new competition
The increase in direct hedge fund investing by institutions and the rise of 130/30 and hedge fund replication strategies has called into question the survival of funds of hedge funds.
The most common argument seems to be against the added layer of fees charged by fund of funds managers. According to Kevin Gundle of Aurum Funds, fund of funds investing is about "passion, focus and enthusiasm".
With respect to justifying the higher fee structures associated with funds of funds, Gundle said that it really is about net performance. "If you are paying peanuts you are getting monkeys," Gundle said. "We charge a fee reflective of taking our job seriously."
Roger Lawson of the UK Shareholders Association questioned whether hedge fund fees are correlated with performance. This also seems to be a prime selling point for hedge fund replicators and 130/30 offerings that are often viewed to be in direct competition with fund of funds offerings.
Alex Ypsilanti, European head of Merrill Lynch's equity derivatives strategy team, said replication products are also a viable investment area for funds of funds too.
Stream session: 130/30 funds
The 130/30 craze continues
For investors still not sold on funds of funds or direct hedge fund investing, 130/30 strategies are seen as a halfway house as these strategies do not use much leverage to the equity portfolio, according to a stream session held in association with Henderson Global Investors.
Investment in 130/30 strategies generally follows a desire for reduction of a portfolio's equity exposure and a need for greater diversification. Dawid Konotey-Ahulu of Redington Partners, an advisory firm, said that 130/30 can be viewed as equity replacement.
UCITS III structures are also a logical extension for the strategy for long-only and hedge fund firms getting into the market, said Alastair Barrie of Henderson, describing 130/30 funds as the attachment of an alpha process to a beta portfolio.
Vincent Barnouin, managing director of Ecofin, described the strategy as a natural continuation of what his firm has been doing for years. The keys are to have both a fundamental research approach and a portfolio construction approach on the short side.
So far, 130/30 structures have thrived thanks to poor performance within some of the hedge fund community. Simon Emrich of Morgan Stanley's quantitative and derivative strategies group said that while quantitative 130/30 managers had had some losses in early August, by the end of the month most had fully recovered.
Panel session: Are niche funds the answer to keeping returns buoyant?
Frontier strategies provide alpha source
For funds of funds seeking additional alpha without adding leverage, interesting opportunities may be found in exotic markets whether they are commodities, emerging markets or even the occasional Tiger Cub.
As some of the asset classes seem best described by the word niche, Chris Bouckley of Caliburn Capital Partners told attendees of a panel session entitled "Extracting returns from funds of funds: Are niche funds the answer to keeping returns buoyant?" that he preferred to think of these strategies as "frontier markets".
"In the long-only world, 90% of returns come from asset allocation, and in hedge fund of funds land 90% is based on manager selection," Bouckley said. "We focus on PhDs, and by that I don't mean academics. I mean poor, hungry and driven."
Weiss, Kellman, Horner, Grünig and Bouckley
For Christophe Grünig of Harcourt Investment Consulting, niche hedge funds are viewed as a natural evolution to fund of funds diversification, while at Eden Rock Edward Horner, founder, has watched asset-based lending funds emerge into their own fund of funds offering as an offshoot of the firm's original multi-strategy portfolio.
Each niche strategy has its fan club. At Pinnacle Asset Management, for example, commodities are king in providing a number of opportunities to generate profits regardless of the direction of equity markets. Jason Kellman, chief investment officer at Pinnacle, said it is cheaper for most investors to outsource the management of a commodity portfolio to a fund of funds with expertise and staff resources in the asset class.
Joelle Weiss, founder and chief investment officer of CBG Investment Advisors in New York, has been taken by the returns offered by Tiger Management alumni. She has even gone one step further and invested with Tiger cub grandchildren coming out of ex-Tiger manager hedge funds, choosing funds out of a Tiger family totalling 70 to 80 managers.
Panel session: What do investors want from hedge funds and are they getting it?
UK institutions see investor committees as the way forward
In a session entitled "What do investors want from hedge funds and are they getting it?" Jonathan Clarke of the RHM Pension Scheme, Angela Docherty, senior corporate investment consultant for corporate pensions at Unilever, Chris Mansi, senior investment consultant at Watson Wyatt, and Ray King, an investment consultant with Sovereign Investment Research, all agreed that they have not lost their appetite for hedge funds and that the love affair with hedge funds has just begun as the ways to access hedge funds continue to proliferate.
Some time-tested techniques have been developed by some of the leaders in the pension industry. Clarke at RHM is still constructing his hedge fund portfolio, while Unilever's Docherty has invested in funds of hedge funds via a Luxembourg SICAV fund structure.
Clarke says his $4 billion fund tends to be focused on the tailored portfolio of hedge funds. He sees hedge funds as an asset class beside that of long-only equity allocations in that hedge funds can offer returns relative to cash. RHM separated its portfolio between liability seeking and return seeking strategies with hedge funds falling under the later portion.
At Unilever, the goal was to boost overall returns as well and trustees have not protested hedge fund investment during the current market volatility. "You are expecting when volatility is in the market your hedge fund portfolio will still meet your needs," Docherty said.
Mansi said hedge funds are a way of managing risk while not giving up return. He also pointed out that hedge fund investment decisions are best handled by a distinct investor committee rather than an entire board of trustees due to the steep learning curve involved.
Australian superannuation funds are making progress along the hedge fund path as well. King, whose firm works closely with $10 billion SunSuper in Australia, said that it is rare for all trustees to interview managers and initial regulatory frameworks calling for all trustees to understand all investments slowed the internal implementation of hedge funds.
Institutional keynote: David Smith, chief investment director, GAM
Are blue chip funds giving fair performance?
In his keynote address, David Smith, chief investment director for GAM Multi-Manager, explored the size and performance myth. Analysing the growth rates of the 100 largest US-based hedge funds over a five-year period, Smith overwhelmingly concluded that there was a lack of persistency in hedge fund performance.
Entitled "Are you getting your fair share?", Smith argued that investors are not getting their fair share of the hedge fund performance pie if they invest too heavily in the largest hedge funds and cannot tolerate short-term non-consensus performance. Smaller firms offer the promise of returns, but investors have to be on their toes in terms of operational due diligence.
Overall, Smith, who runs more than $33 billion in hedge fund assets via funds of funds, says that as the size of the blue chip names increases then the rate of performance typically decreases. Clearly this does not apply to every single large blue chip fund, as even Smith invests in a large number of them.
He argues that the rate of performance depression, the reversion to the mean, used to take three years, and now it seems to take one year of asset growth. One way round average performance is holding a larger percentage of smaller firms as this is where the talent and performance is. This however, Smith notes, does carry with it, increased operational risk.
The way forward is to increase the number of holdings, increase the number of investments in smaller funds and increase resources to the operational aspects of reviewing the investments. Many of the fund of funds firms in the audience have assets between $5 billion to $10 billion and Smith's words had a ring of experience to them, as he has had to navigate his way into maintaining the performance at the same time as the fund of funds assets grew to their current size.
Investors also have to be willing to accept less liquid hedge fund investments. "Illiquidity is still the price you pay for return," Smith concluded.
Panel session: Family offices
Family offices still in favour of hedge fund investment
The typical family office portfolio may be smaller than most pension funds, but its content can be much more adventurous.
A highly experienced panel of family offices – including Alan Albert of LK Advisers that looks after the Mittal family money, Luc Estenne of Partners Advisers and Nikos Latsos of Alpheus Group – each spoke of the promise hedge funds brought to their portfolios' return objectives.
There is no one successful family office model, said Albert. Family offices run by professionals tend to have a differing risk profiles and investment objectives. Estenne said the search is for managers to be active on the short side of the portfolio and protect capital at the same time.
Allocations range anywhere from 40% to 85% of total assets. Estenne said his office would rather increase the size of the hedge fund portfolio over the next few months rather than decrease its scope.
At Alpheus Group, officials see hedge funds as the perfect expression of one's view of the markets. Latsos said his family office did not make any changes in the wake of the sub-prime chaos and did not intend to in the future. "We built our allocations to hedge funds in learning from all these market shake-ups," added Estenne.
Panel session: Consultants
Consultants continue to dominate alternatives scene
As investors take stock of their portfolios, with and without hedge funds, consultants on the panel, which included Robert Howie of Mercer, Aoifinn Devitt of Clontarf Capital, Nicola Ralston at Liability Solutions and Simon Fludgate at Aksia, were divided about whether or not it requires a different skill set to analyse funds of funds rather than hedge funds.
Howie believes that the skill set is different, which is why direct investments are looked after by the equity research teams at Mercer. That said, in the UK, funds of funds are still the dominant route, while in Australia, multi-strategy investing is popular and in the US many more institutional investors are looking at either supplementing fund of funds investments with direct allocations, or simply switching to direct and selling out the fund of funds positions, often with the use of a fund of funds as an adviser.
The overall consensus was that 5% allocated to hedge funds was the average but that as investors got comfortable the allocation would increase to north of 10%. Ralston added that too little was actually a waste of time. With an increased focus on hedge funds, specialist consultants were in demand, often simply as another pair of eyes.
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