Funds of hedge funds downgrade forecasts

Date: Tuesday, September 12, 2006
Author: Nigel Davies, Reuters.co.uk

By Nigel Davies

LONDON (Reuters) - Fund of hedge fund managers have downgraded expectations for returns over the next six months as global growth and a commodities bull run have cooled, according to a Reuters poll on Monday.

The quarterly survey of 13 funds of hedge fund managers, which together manage more than $100 billion, showed they expected average returns, with only a few strategies, such as emerging markets, anticipated to bring above average results.

The poll, carried out between August 30 and September 8, showed a shift down in sentiment from the last survey, when half of all strategies were forecast to deliver superior returns in one or both of the following two quarters.

Managers have reduced their forecasts for exposure to emerging markets to 5 percent from 8-9 percent, while fixed income strategies rose to just over 8 percent from 6 last time.

A dip in oil prices to $65 a barrel currently from an all-time high of $78 in July, alongside falls in metals prices such as copper, has led managers to re-evaluate portfolios.

"We view the end of the long-term bull market in commodities to be still years away, but these markets will be less directional, more volatile and will require both long and short investment abilities," said Manuel Echeverria, chief executive of Optimal Investment Services in Geneva.

"Dislocation in economic cycles between regions and countries should lead to better opportunities in both fixed-income and currency markets."

While managers' asset allocation forecasts have not changed much since the last survey, a more conservative approach is noticeable.

That coincides with a slowdown in the world's largest economy and growing expectations that the Federal Reserve is done raising interest rates and may have to cut them next year.

SHIFT TO MULTI-STRATEGY

While some managers expect to benefit from an increase in volatility that has gripped markets in recent months, most are turning to strategies that aim to offer consistent returns in any market cycle, such as multi-strategy funds which allocate funds to various sectors and regions.

"In several strategies managers are very defensive and inclined to increase their cash allocation, in the hope that a significant market event will create a new set of opportunities," said Florent Salmon, a portfolio manager at Desjardins Asset Management in Montreal.

Salmon said he would trim his allocation to equity markets in long/short strategies in coming months, moving out of the U.S. in particular, where performance is expected to be sluggish.

M&A SEEN BOOSTING RETURNS

Most managers remain convinced that merger and acquisition activity will be one factor able to offset a slowdown in economic growth and maintain steady returns.

"The pace of investment banking activity will remain brisk, particularly outside the United States, and we remain positive on the outlook for global event-driven and activist-oriented managers," said Scott Reid, managing director of Auda Hedge in New York.

Reid expects to see above average returns for the equity long/short strategy. However, he said he would look to put on a more global and varied equity exposure in coming months.

And while managers trimmed down their exposure to emerging markets, they also forecast above average returns there in the fourth quarter this year.

"Many of the foreseeable risks to emerging markets ... lie outside the asset class and are offset by the potential for additional ratings upgrades and strong capital inflows," said Kris de Souter, head of multi-management at Dexia Asset Management in Luxembourg.