Institutional investors are deepening their commitment to hedge funds, but not necessarily getting enough information from their managers, according to a study by SEI in collaboration with Greenwich Associates.
The report, The Shifting Hedge Fund Landscape: Institutions Put Fund Managers to the Test, found that investors expect much more from managers in terms of articulating their value proposition, risk mitigation methodology and performance expectations.
The study results found that institutional investors’ allocation in hedge funds continues to rise, with 38% of survey respondents saying they plan to increase target allocations over the next 12 months. While that number is lower than in past years, it comes on top of a 54% increase in 2010. At the same time, hedge fund allocations represent a greater share of respondents’ overall portfolios, at nearly 18%, up from 12% in 2008. When asked why they invest in hedge funds, nearly one-third of respondents named absolute return as the top objective, passing non-correlated investment strategies as the top priority.
“Although returns are understandably a top objective, risk management also remains at the front of investors’ minds,” said Rodger Smith, managing director of Greenwich Associates. “Three of the top four goals named by respondents—accessing non-correlated strategies, diversification and lowering volatility—address investment risks. This suggests that institutions today use hedge funds to help them lower portfolio risks in addition to boosting returns.”
“To differentiate themselves, managers must articulate the strategy and processes they are using to generate returns and clearly explain to their investors how they are mitigating risk,” said Ross Ellis, vice-president, knowledge partnership, with SEI’s investment manager services division. “Investors need to be involved and confident in the overall investing process while pushing toward institutional standards.”
Reinforcing the demand for more understandable, less opaque strategies, the overwhelming majority of respondents (82%) named long/short equity among the top three strategies they presently employ, followed by event-driven and credit, named by 53% and 42%, respectively. Only a small number of respondents (15%) said they intend to divert some share of hedge fund allocations to regulated products such as alternative mutual funds or UCITS (Undertakings for Collective Investment in Transferable Securities) in the coming year.