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Hedge Funds Are Embracing Smaller Funds
July 14, 2011
Institutions and public pensions funds continue to warm up to hedge funds.
According to London-based data research firm Preqin, 32 percent of its universe of 2700 investors plan to invest in additional hedge funds over the next 12 months. They figure to allocate at least $125 billion but as much as $195 billion.
A majority of them are looking to give money to funds of funds. Of those looking for single manager funds, a significant majority figures to plunk down their money with the smallest funds.
On the surface, these findings are somewhat surprising. Afterall, less than three years ago the survival of funds of funds — known for mediocre performance and relatively high fees — was called into question in the wake of the global financial meltdown, when many of them suffered performance and liquidity problems.
However, according to Preqin, more than half of public pension funds planning to increase their hedge fund commitments are looking to funds of funds commitments while 67 percent of private sector pension funds that are planning to increase allocations to hedge funds in the next year are looking at funds of hedge funds.
Preqin says funds of funds giant Permal, with $23 billion under management, could add up to 25 new funds over the next 12 months, as a result of a new fund of funds launch and natural turnover within its existing vehicles.
The research firm also notes that more than one-third of Sovereign wealth funds are looking at making additional allocations over the next 12 months while 36 percent of public sector pensions are seeking addition investments.
Those investors making direct investments in hedge funds are looking for small funds but with track records.
According to Preqin, more than 60 percent of investors are looking for hedge fund managers with a track record of three years or more; nearly 43 percent will require at least three years.
Interestingly, this does not translate into a movement into large funds.
A little more than one-third of investors are looking for funds with less than $99 million while about 45 percent want a fund with between $100 million and $499 million.
Obviously, it is not very important to these investors whether or not a hedge fund manager is registered with the Securities and Exchange Commission. New rules adopted by the SEC require advisers to hedge funds and other private funds to register with the SEC by March 2012 only if they have at least $150 million under management.
Preqin’s findings seem to dovetail with recent Hedge Fund Research data which showed a movement away from the largest funds.
HFR noted at the beginning of the year that while more than 80 percent of net new assets were allocated to firms with more than $5 billion in AUM for all of 2010, only 51.6 percent of inflows went to the industry’s largest firms in the fourth quarter.
Keep in mind that HFR has regularly found that newer, smaller funds have outperformed larger, older funds.
Joanne Hammond, hedge fund research analyst at Preqin, stresses that many of the investors surveyed already have investments with large funds but find there is more transparency with smaller funds, which provide in more detail how they generate their returns. She adds: “With many large funds, they are not sure how they made their returns. Institutional investors, public pension funds tends to be more cautious.”
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