SWFs boost hedge funds portfolio

Sovereign wealth funds (SWFs) have made hedge funds an increasingly sizeable percentage of their portfolios, especially after the onset of the global financial crisis two years back, an official of a US-based fund of hedge funds (FoHFs) managing firm said.

"As they have evolved over time, SWFs have begun to take more risk in their portfolios in a number of different ways. They have increased direct investments into longer dated assets such as real estate, infrastructure and timber, have often made significant investments in corporate entities and have made hedge funds an increasingly sizeable percentage of their portfolios," Judith Posnikoff, Managing Director and one of the founders of Pacific Alternative Asset Management Company (Paamco), headquartered in Irvine, California, told Emirates 24|7.

The global financial crisis of 2008 resulted in significant price dislocations that investors with cash were able to take advantage of both through direct purchases and via hedge funds. As those specific opportunities have closed, investors have continued to allocate to hedge funds in order to take advantage of their hedged exposures and opportunistic approaches, she said whose firm is a top 5 ranked FoHFs manager by pension fund assets globally.

According to the latest report from Chicago-based Hedge Fund Research, Inc. (HFR), the global provider of hedge fund industry data, hedge funds recorded the largest quarterly asset jump in the past three years, with total industry capital increasing by $120 billion in Q3 this year.

Relative value, and macro lead strategies investors allocated a net $19 billion of new capital to the hedge fund industry in the third quarter, the largest quarterly capital inflow since the fourth quarter of 2007, the data from HFR showed.

However the increased asset allocation into hedge funds doesn't mean diverting investments from traditional investment, she said. Rather: "The allocations to hedge funds have come from global equities and fixed income; from those asset classes not so much from selling (i.e., reducing existing amounts invested) but from directing new cash inflows to the alternatives or hedge funds allocation," Posnikoff maintained.

 

"We expect to see increasing allocations to hedge funds in the years ahead given an increased focus on active management by SWFs, she said, adding, SWFs constitute approximately 20 per cent of Paamco's total assets under management.

Hedge funds, including FoHFs, got a severe beating in 2008 and last year as they saw sharp erosion in terms of assets under management as well as net asset flow because of high redemptions.

However, the industry has stabilised thereafter, she maintained.

"Not all hedge funds or FoHFs had serious issues in 2008; in fact, most performed as expected given their exposures and the severe equity and credit market downturns.  Net asset flow for hedge funds and FoHFs were curtailed in the latter part of 2008 and into 2009 but have since rebounded," Posnikoff said.

She said strong, institutional quality hedge funds and FoHFs have continued to raise assets as there has been a reallocation of assets from weaker firms to stronger and there are increasing allocations from institutional investors such as pension plans and SWFs who recognise the value to their portfolios as provided by hedge funds (even through the global financial crisis).

Retail and high net worth assets have left the hedge fund space and have been slow to return but institutional allocations to both hedge funds and FoHFs have increased, she added.

Reports of high management fees being charged by FoHFs compared to traditional investment funds are also misplaced, Posnikoff added.

"The fees charged by most institutional quality FoHFs tend to be in line with other institutional investment funds providing active management and are significantly lower than the fees charged by hedge funds," she said, adding: "FoHFs are often perceived as just an additional layer of fees on a portfolio of hedge funds.

This ignores two main things: one, FoHFs provide active management of their portfolios (in other words, a good FoHF really earns its management fee via its due diligence, portfolio construction, risk management and monitoring functions) and two, a large, institutional FoHF can often negotiate much lower fees on the underlying hedge funds, up to the point where most of the FoHF cost is covered by the savings from the underlying hedge funds."

Thus, she added, the active management services provided by the FoHFs may end up actually costing less than what the management fee indicates and, in some cases, FoHFs can provide a portfolio of hedge funds to an investor at a cost lower than what the investor could access directly.