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9/2/2015

WhyInvestInHedgeFundsIfTheyDon'tOutperformTheMarket?Forbes

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1/21/2015@12:32PM 6.080views

WhyInvestInHedgeFundsIf
TheyDon'tOutperformThe
Market?
CommentNow

Hedgefundshavealwaysbeenabitexoticandanenigmatosome,but
bottomlinetheyaresupposedtoproducegoodreturnsusingarangeof
strategiesincludingglobalmacro,eventdrivenandrelativevalue
(arbitrage).And,sophisticatedorhighnetworthindividuals(HNWIs)could
realisticallyexpectsomesolidperformancesgiventhefeespaidtoactively
managetheirmoney.Butlatelyhasthislogicgoneoutofthewindow?

ThematterwasbroughtintosomethingofasharperfocusafterPFZW
(PensioenfondsZorgenWelzijn),the156.3billion(c.$181bn)Dutch
healthcareworkersfundandEuropessecondbiggestpensionfund,
announcedon9January2015thatitwastostopallfurtherinvestmentsin
hedgefunds.

ItsaninterestingdevelopmentgiventhatPFZWwasoneofthefirstDutch
pensionfundstoinvestinhedgefundsbackin2003andfollowsasimilar
announcementlastSeptemberbytheCaliforniaPublicEmployees
RetirementSystem(CalPERS),thelargestpublicpensionfundintheU.S.
withc.$300bninassetsthatmanagespensionandhealthcarebenefitsfor
over1.6mpeople.

TheCalPERSmoveeliminatesitshedgefundprogram(knowninternally
astheAbsoluteReturnStrategies(ARS)program)byexiting24hedgefunds
andsixhedgefundsoffundsvaluedataround$4bnandwilloccuroverthe
courseof2015.Apressstatementunderlinedthattheirdecisionwasnot
basedonperformanceof[the]program,whichproduced7.1%inafiscal
yearwhenallofCalPERSgenerated18.4%.

http://www.forbes.com/sites/rogeraitken/2015/01/21/whyinvestinhedgefundsiftheydontoutperformthemarket/print/

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Ratheritwastakeninanefforttoreducecomplexityandcost.Onthelatter,
theyexpectedtopayoutaround$135minfeestohedgefundsthatmanaged
theirmoneyfortheyearto30June2014(2013:$115m).

TedEliopoulos,CalPERSInterimChiefInvestmentOfficer,statedatthe
time:Hedgefundsarecertainlyaviablestrategyforsome,butattheendof
theday,whenjudgedagainsttheircomplexity,costandlackofabilityto
scaleatCalPERSssize,theARSprogramisnolongerwarranted.

PFZW,whichin2013had2.7%ofitsinvestmentsinhedgefunds,alsocited
complexityasamajorfactorforitsdecisiontostopinvestinginthese
fundsaswellashighassociatedcosts.Withhedgefunds,yourecertainof
thehighcosts,butuncertainofthereturn,statedJanWillemvanOostveen,
PFZWsManagerFinancialandInvestmentPolicy.

TheDutchpensionfundadded:Foralongtime,hedgefundswereauseful
toolbutlatelytheyhavenotmadeasufficientcontribution.And,high
remunerationinthehedgefundssectorandoftenlimitedconcernforsociety
andtheenvironmentwasnoted.Nowthatsnotexactlygoingtobemusicto
earsofthehedgefundcommunity.
Inadditiontocostsassociatedwithhedgefunds,whichhavebeenestimated
ataround14,000globally,failureshavebeenincreasingrecently.According
toindustryresearchgroupHFRsome416fundsclosedoverthefirsthalfof
2014.Werethatratetobemirroredoverthesecondhalfoflastyearitcould
equatetoaroundathousandfortheentireyearandmeanthemostclosures
since2009when1,023shut.

AsIdigestedthisIreflectedonahedgefundsurveypublishedthisJanuary
inFTfm,whichscreenedover900hedgefundsmanagingassetsfrom
$100mto$1bnthroughdataprovidedbyBarclayHedge.Theperformance
tableatthefootofthesurveyrevealedthatjustoneofthetopfivehedge
fundsprofiledoutperformedtheS&P500totalreturnindexoveraoneyear
period.

And,itwasasimilarpictureforthepastthreeandfiveannualisedyear
periods.So,iftheseweresomeofthebestfundswhatoftherestIthought?
TheS&P500totalreturnindexinfactoutperformedalmosteveryhedge
fundoutthereinthethreeyearsthroughJune2014.Somemighthave
thoughthedgefundsweresupposedtoproduceoutperformancewhentimes
weretough.Butclearlynot.
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SomeouttherebesidesPFZWarguethatfeesleviedbyhedgefundarein
manyinstancesarefartoohighandlockupperiodsoverlylong.Theyhavea
pointgiventhatthesefeescantypicallybe2and20andsometimes3and30
(i.e.2%3%managementfee/20%30%performancefee).

Butiftheyregoingtobecorrelated(withequities)thenwhynotbuya
mutualfundproductinstead?CometothatwhynotinvestinExchange
TradedFunds(ETFs)andtrackyourchosenindex,marketorindustrial
sector.

Onlockups,eventhoughtheunderlyingassetsinahedgefundcanbe
extremelytradable,investorsareoftenstuckintheseinvestmentsfor
prolongedperiodsandunabletogettheirmoneyout.Sothathastobe
questioned.Somemightalsobethinkingthatthesevehiclesarejustaway
forpeopleintheindustrytobecomeextraordinarilywealthy.ItsaviewIve
heardexpressedbyoneformerCityfundmanager.

FromallthisyoumightmakeyouaskwhetherthemovesbyCalPERSand
morelatterlybyPFZWbuckthetrendorareaflashinthepan.Thejury
mightbeouthere.ItstruethatotherU.S.pensionfundslastyeardebated
themeritsofinvestingintheassetclassandtherehavebeenexamplesin
Europe.

IntheU.S.thenamesonthisscoreincludetheSanFranciscoCity&County
EmployeesRetirementSystem,whichwasreportedtohavedelayedfora
furtherninetydaysadecisiontoinvestinhedgefunds,andtheCalifornia
StateTeachersRetirementSystem(CalSTRS),thesecondbiggestU.S.
publicpensionfund,whichallocatedsome$700mtotheassetclassinthe
pastcoupleofyears.
ForEurope,wecanaddtothemixPMT,thethirdlargestDutchpension
fundwithover50bn(c.$58bn)inassets,andtheBTPensionschemeinthe
UKwithc.40bn.So,itssmallfry.

Soarehedgefundsunlovedthen?Wellnotaccordingtorecentfigures
showingthatnetinflowsfromotherpensionsandinstitutionalinvestors
pushedassetsmanagedbytheglobalhedgefundindustrytorecordhighs
lastyear.ThismightbeaparadoxbutaccordingtoeVestmentdataa

http://www.forbes.com/sites/rogeraitken/2015/01/21/whyinvestinhedgefundsiftheydontoutperformthemarket/print/

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whopping$114.bnwasploughedintothesectorbetweenJanuaryand
August2014almosttwicetheamountaddedforthewholeof2013.Nottoo
badthen.

JackInglis,CEOoftheAlternativeInvestmentManagementAssociation
(AIMA),theglobalhedgefundindustryassociation,commentingonthe
organizationswebsiteposttheCalPERSdecision,stated:Sophisticated
investorsdonotlookattheirhedgefundinvestmentsasameanstobeatthe
S&P500.Theyrecognizethattheequitiesboommaynotlastforeverand
theywantcapitalpreservation,reducedvolatility,heighteneddiversification
andstrongriskadjustedreturns.

Onthisnote,asurveypublishedinJanuary2014byPreqin,aleadingsource
ofdataandintelligenceonthealternativeassetindustry,foundover80%of
institutionalinvestorsweresatisfiedwithhedgefundperformancethe
previousyear.Thiswasdespitetheaveragefundinthesectorappearingto
underperformtheS&P500.

WallaceWormley,founderofOSPARALimited,aUKprivatefirmengaged
ininvestmentconsultancypracticethatadvisesinstitutionalinvestorsand
familyoffices,says:Itmaybeabitdisingenuousforinvestorsand
commentatorstobeoverlycriticalofhedgefundsperformanceinbullish
equitymarketslikeweexperiencedin2014.Therearemorethan10,000
hedgefundsworldwideandthereisnoonestyle,strategyorobjectivethat
fitsallofthem.

HarvardPh.DeducatedWormleyadds:However,somethingalarge
numberofthemattempttodoisprovideahedgedstrategyfordownside
protection,shouldthingsturnnegativeinmarketsand/orrelatedtospecific
positionstheyareholding.Thereisacosttothatprotection,whichcanbea
dragonperformanceinupmarkets.

NodoubtmorelightwillbeshedonhedgefundsatajointYaleSchoolof
ManagementandEDHECRiskInstituteseminarnextmonthinLondon
(Feb2425).Theeventflyeracknowledgesthathedgefundshavebeen
calledintoquestionandparticularlybyinvestorsfocussingontheir
performancerelativetotheS&P500.Whetherthattranslatesinto
addressingperformancefeesleviedbytheindustryremainstobeseen.It
oughtto.

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