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Emerging Managers Neutral on U.S. Economy, Equities

Date: Wednesday, January 24, 2007
Author: Jacob Bunge, Financial Correspondent

NEW YORK (HedgeWorld.com)—The minds of newly minted hedge fund managers, flush with new perspectives and ideas, are grounds that many investors find fertile: Studies often show that managers produce their best performance in their initial years of trading.

With that in mind, VanthedgePoint, a company providing operations platforms to small and mid-sized hedge fund firms, released the results of its second-annual survey of more than 200 emerging hedge fund managers, sampling their outlook for 2007.

The prevailing sentiment is neutrality. A large majority, 57.4%, said they were neutral on the U.S. economy for the coming year, while 44.3% felt the same way toward U.S. equity markets. A strong undercurrent of bullishness remained, however, with 37.7% forecasting a good year for U.S. stocks and a smaller number, 32.8%, predicting a positive U.S. economic climate for the next 12 months.

But when it came time to name the top-performing asset class for 2007, U.S. equities won out, with 44.3% of responding managers picking it to lead returns this year. Next on the list were international equities, picked to outperform by 31.2% of the managers.

"It seems that emerging managers, particularly the ones in our survey, are still biased toward U.S. equities," said Geoffrey M. Tudisco, chief executive and founder of VanthedgePoint Group Inc., speaking in an interview. "I think emerging managers, because of their small staff size and resources, tend to be biased toward what they know, which is U.S. equities for the most part."

Among U.S. equities, 41% said the best returns would be produced by the technology sector, followed by financial services (31.2%), consumer goods (26.2%), food and beverage (21.3%) and defense (21.3%). Sectors viewed as likely to perform poorly included automotive (32.8%), real estate (27.9%), energy (21.3%) and home building and furnishing (21.3%).

Large-cap stocks are favored over small-caps, with 36.7% picking large-caps as 2007's best performers compared to 33.3% for small. China and Japan were seen as the best places to invest internationally, each with 34.4%, while Latin America and Russia were said to be the worst, with 37.7% and 23%, respectively.

The softening real estate market seemed to weigh heavy on fund managers' minds. Asked what they expected to be the worst-performing asset class in 2007, real estate topped the list with 27.9% of responses. High-yield debt garnered 24.6%, and commodities 21.3%.

Last year, the VanthedgePoint survey proved fairly prescient. Mr. Tudisco noted that a year ago 39% of surveyed managers forecast that energy cost increases would be the major determinant in the economy's fate, while 31% said it would be the real estate market. In the current survey, the real estate market slowdown topped the list with 29.5%, with inflation next at 21.3%. The number of managers concerned with inflation tripled in the past year, according to Mr. Tudisco—in the 2006 survey, only 7% gave that response.

Another striking result of the survey, Mr. Tudisco said, was the growing use of index products—about 62% said they planned to use index products in the coming year, compared to 44% in 2006.

Asked what was the most difficult aspect of running a hedge fund, a resounding 70% said "raising capital," according to the survey. Number two was finding investment opportunities in the market, speaking to managers' general neutral feeling toward the market, and operational stability and risk tied with investor relations at 3% each. Despite the ever-present rumblings in the press of heightened hedge fund regulation, only 1.7% chose compliance, legal and regulatory issues as the most worrisome.

To Mr. Tudisco, that 70% capital-raising figure wasn't a surprise. "The large majority of emerging managers are a one- or two-man shop," he said. "If you take your eyes off managing the money, your performance is likely to suffer—anything other than finding investment opportunities is a distraction."

Among the 200 managers responding to the survey, more than half managed less than $10 million, and 85% managed less than $100 million. Ninety percent were located in the United States, and about one-third offered both onshore and offshore vehicles. For the most part, Mr. Tudisco said, the responding managers were involved in some form of long/short strategy, be it equity trading, event-driven or macro.

VanthedgePoint opened in early 2006, targeting its technology services to hedge fund firms managing less than $50 million, a segment of the industry the firm viewed as underserved Previous HedgeWorld Story. In November, the firm expanded its platform to include international equities trading, and named Penson Financial Services Inc. as its clearing firm for U.S. equities and options and international equities Previous HedgeWorld Story.