Thursday, June 26, 2008

Institutional investors put more money into hedge funds as HNWI allocations drop

Although the share of hedge fund capital provided by institutions remained unchanged from 2006 to 2007, pension funds, endowments and foundations remain strongly committed to the asset class. This is one of the conclusions in a study by Greenwich Associates and Global Custodian.

Pension funds and endowments/foundations directly provide 13% of the average hedge fund’s assets under management. Institutions commit assets to hedge funds through fund of funds. This account for an additional 23% of hedge fund assets.

High-net-worth individuals and family offices remain the biggest sources of assets for the average hedge fund, accounting for 37% of the total. “This does not include about 10% of assets provided by the funds’ employees and general partners,” said Greenwich consultant John Feng.

For the world’s largest hedge funds, institutional investors have overtaken high net worth individuals and family offices as a source of assets. Direct investments by institutions provide 25% of these funds’ assets. High net worth/family office investments account for 22% of assets.

In terms of importance to funds with over $1 billion in assets, both of these sources rank behind fund of funds. They provide 27% of total assets — up from 25% a year ago.

The financial flow from institutions to hedge funds is due in large part to sophisticated portfolio management models first developed by endowments and foundations and are now being adopted by pension funds, said the study.

These models were designed to expand the principals of modern portfolio theory to encompass ‘non-traditional’ assets. The approach is characterised by heavy use of hedge funds, private equity funds and, increasingly, other alternative asset classes viewed as having a low level of correlation with traditional fixed income and equity holdings.

In the US, which accounts for the vast majority of global institutional hedge fund investment, nearly 45% of institutions invest in hedge funds. In 2007 this represented 2.6% of institutional assets — up from 2.2% in 2006 and 1.9% in 2005.

Although those percentages seem modest, in dollars it is $195 billion for 2007, up from $140 billion in 2006 and $113 billion in 2005.

When asked in October 2007 about hedge fund investments, 23% of US institutions said they planned to increase allocations beyond current levels by 2010. Only 2% said they planned to reduce them.

Average allocations at the country level include many institutions that do not invest in hedge funds at all. Many active hedge fund users have devoted much larger shares of their assets. For example, US endowments that describe themselves as active hedge fund investors devote on average 16.5% of their total assets to hedge fund investments.

Institutional interest in hedge funds received an additional boost from hedge fund-style investment strategies that have been rolled out by both hedge fund managers and traditional asset management organizations looking to attract institutional dollars.

Among the hedge fund participating in the 2008 Greenwich Associates/Global Custodian study, nearly 11% say they are active in 130/30 strategies.

“Hedge fund managers are creating new funds in which they dial down leverage and shorting activity to attract institutional investors, and they are also creating funds featuring their best long-only investment ideas,” said Greenwich Associates hedge fund specialist Karan Sampson.

“On the other hand, traditional asset management organizations are adding hedge fund like products to get to the same place from the opposite direction,” she concluded. END
(Source - Hedge Fund Review)