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Investors Love Hedge Fund IPOs, Survey Shows

Date: Thursday, January 11, 2007
Author: Emma Trincal, Senior Financial Correspondent, Hedgeworld.com

NEW YORK (HedgeWorld.com)—There is a growing tendency for investors to consider investing in publicly listed hedge funds, a surprising new trend considering how recent a thing it is for hedge funds to gain access to the capital markets through IPOs. This was one among many other trends underlined in the Fifth Annual Alternative Investment Survey conducted in the second half of 2006 by Deutsche Bank and released today [Jan. 11].

According to the survey, half of the investors said they were open to switching to publicly traded hedge funds from the traditional private limited partnership. "There is a growing interest in publicly traded hedge funds. It's a big focus of the future," said John Dyment, global head of capital introduction, commenting on the survey. Investors are interested in the public market because they get daily liquidity and hedge fund managers like it too because they get permanent capital from these IPOs, he said.

Deutsche Bank conducts each year an extensive survey of institutional investors, asking them about trends, strategies and planned allocations. The survey's results are fairly significant considering that it encompasses a large component of the hedge fund investing community across Asia, the Americas, Europe, the Middle East and Africa. This year, the pensions, banks, wealth management companies, family offices, endowments, foundations and insurance companies that responded to the survey are investing in more than $900 billion worth of hedge funds, which represents two-thirds of the $1.4 trillion invested globally in the industry. Deutsche Bank obtained responses from 1,000 representatives from almost 700 institutions around the world.

For investors, the ability to buy public hedge fund shares every day is attractive, as the resulting daily liquidity allows them to "dynamically asset allocate," he added. Another intriguing reason, Dyment pointed out, is that investors will be able to express negative views on hedge funds, which they could not do before. "If you are on the public market and your shares are borrowable, you can short hedge funds," he said.

Dyment added that some institutional investors today that want to invest in hedge funds may be prohibited from doing so by their boards because of the hedge funds' long lock-ups. "If the hedge fund was a publicly traded company, it would be easier for [the investors]. You can express your view and you don't have a two-year lock-up in a fund vehicle," he said.

Several hedge funds have recently tested the waters of IPOs and public listings, especially in Europe Previous HedgeWorld Story. In the United States, so far the only hedge fund that has gone public was Fortress Investment Group Previous HedgeWorld Story but other private investment companies are reportedly paying attention to the Fortress deal, notably in the private equity sector.

Another interesting conclusion is a growing acceptance of longer lock-ups on the part of investors. More than half of the respondents said they were willing to accept a lock-up of two years or more, a figure that has more than doubled since 2005. Only 8% of the investors said they would not invest in a manager that requires a lock-up of the capital. Dyment named three reasons behind this trend: investors are considering more illiquid investments such as distressed debt, asset lending or collateralized debt obligations that require longer lock-ups because they want investments that are not correlated to their portfolio. In addition, they seek higher returns as a premium for less liquidity. Finally, they believe that they may be able to buy "great managers" in the process. A parallel trend is the willingness of investors—two-thirds of them—to invest in funds with a side pocket, those share classes that allow managers to purchase generally illiquid securities in a separate vehicle.

Investors predicted that the best-performing investment strategies for 2007 will be first long/short equity (18% of the respondents); global macro (13%); and event-driven/relative value strategies (12%).

They anticipate a dramatic growth of assets for some strategies, such as merger arbitrage, which is predicted to have a 20% increase in assets in 2007 based on portfolio rebalancing. Others, such as credit arbitrage or currencies, will see outflows of as much as 13% of the assets. The survey also points to the anticipated redemptions in multi-strategy funds where investors predict a 6% outflow. "What we're seeing is a definite trend toward deemphasizing multi-strategy funds and emphasizing the smaller, less-represented strategies—such as merger arbitrage for example—that people don't have as much exposure to presently," Mr. Dyment said.

Finally, investors are particularly interested in China, where they predict a 38% jump of assets. By contrast, funds focusing on the U.S. markets are likely to see outflows of more than 7% in 2007.