Hedge Funds Vie for Institutions08.18.2011
Large institutions such as pensions, endowments, and foundations have had a long history partnering with alternative asset managers. Given today’s volatility in the U.S. equity market, diversification is needed to drive returns that have little or no correlation to the markets.
“The role of the hedge fund is to provide diversification to a long-only equities portfolio,” said Darren Spencer, director of Russell Investments alternative investment strategies. “But today, hedge funds are used for return enhancement because it’s been a challenging equities market.”
A hedge fund’s presence in an institution portfolio is determined by level of internal investment resources and governance structure, according to Spencer.
Apart for the volatility seen in the equities market over the past three weeks, Spencer highlighted numerous global events that have rattled institutions for the past decade—the Gulf War in 1991, Russian debt crisis in 1998, the tech bubble of 2000 and of course, the terrorist attack of September 11 in 2011. Such geopolitical events warrant institutions to rely on sound investment choices to last through turbulent markets.
“We’re seeing clients turn to tactical trading, which is really a generic term for range of strategies that including investing in commodities or using managed futures,” said Spencer. “From the top, managers, build a portfolio in a thoughtful way, and they need to have strategies with good downside protection.”
Strategies that deploy credit are also of interest to institutions now. “This doesn’t mean investing in high yield bonds, it means buying assets at a discount off a distressed seller, or discount to NAV (net asset value),” said Spencer. Banks specifically are deleveraging and having to dispose of assets from their balance sheets to maintain capital requirements, and that presents opportunities for institutions.
Manager selection is meticulous process for institutions. Despite the post 2008 influx of hedge fund launches, the competition for institutional money has grown fierce. Institutions are ensuring they “get value from their managers,” said Spencer.
According to Hedge Fund Research, 80 percent of assets in the hedge fund arena are managed by the largest 200 firms. “The barrier to entry for hedge funds is easy but the barrier to success is high. Unless you have critical mass with your strategy, it’s hard for start-ups.”
Spencer however told Markets Media that pedigree does not necessarily mean better value.