Hedge Funds Get Favored Treatment

Date: Thursday, February 22, 2007
Author: Institutional Investor

Suspicions have been confirmed: When institutional investment advisers offer both mutual funds and hedge funds, the latter usually get choice treatment. That is one of the findings of a study titled, For Better or Worse? Mutual Funds in Side-by-Side Management Relationships With Hedge Funds, which seems to substantiate what has long been rumored that "The reported returns of side-by-side mutual funds are significantly less than those of similar mutual funds run by firms that do not also manage hedge funds." The study by Gjergji Cici and Scott Gibson of the College of William & Mary’s Mason School of Business and Rabih Moussawi of the Wharton School of the University of Pennsylvania tracked around 70 firms that managed more than 450 mutual funds as well as some hedge funds for the decade between 1994 and 2004. They found that mutual funds offered along with hedge funds underperformed unaffiliated mutual funds by 1.2% a year, which translates to an estimated $5.6 billion in lost opportunities to investors. The professors conclude that "conflicts of interest motivate side-by-side managers to strategically transfer from mutual funds to hedge funds." One reason for this may seem pretty obvious: Fund managers get paid much more when hedge funds perform well. Side-by-side mutual funds in general, say the authors, get a somewhat smaller number of low-priced shares in an initial public offering. For years, the Securities and Exchange Commission suspected there was some sort of conflict, and the study seems to confirm it. How widespread is the conflict? For starters, 15% of hedge fund advisers that registered with the SEC also managed at least one mutual fund.