Those with good performance are suffering from redemptions as investors are forced to rebalance portfolios as equity investments decline, or to redeem hedge fund allocations simply to free up cash to be put to use elsewhere. In October and November, more than $80 billion left the hedge fund industry. Some private banks, however, say the forced redemptions of some investors are offering opportunities to high-net-worth individuals.
Dennis Geelan, director of investment solutions at Credit Suisse’s private bank in London, says that there are select opportunities. "Many hedge funds have delevered by now and are well incentivized to work even harder to retain investors and get performance back above the high-water mark and make performance fees again." The fact that there are no performance fees to be paid to some managers given the drop off in performance is also viewed as a reason to invest by some opportunistic high-net-worth clients, adds Geelan.
Patrick Reid, director with Citi Global Wealth Management Alternative Investments, says that, for those managers that will not have performance fees this year, it is essential to carry out thorough due diligence. "How are those funds going to retain staff in 2009 and beyond, for example, if incentive fees have gone? Low fees do not equate to a great manager."
Discriminating investors
Reid says that private clients in 2009 will be looking for products that are low in leverage and where the structures curb redemption pressure. In order to prevent the mass outflows, managers have been locking up investor money. "If it is to prevent a fire sale of assets, then that is a good idea but there needs to be a good explanation for locking up money." Reid also adds that from now on, managers will be forced to assess structure upfront, building funds with special purpose vehicles or sidepockets rather than introducing lock-ups suddenly when times get rough.
Geelan adds that more complicated-sounding products such as 130:30 funds and portable alpha funds will be separated from hedge funds and structured products in investors’ minds. "Many of these products that were regarded in the absolute return category have not proved themselves. I think investors will realize the difference between those and hedge funds."
He adds that private clients are also being drawn to opportunities that have arisen in the private equity industry. "There are a number of large investors that are forced sellers of private equity in this market. They may need to raise cash quickly to cover shortfalls in other areas of their portfolios, and some investor asset allocations have been readjusted due to the broad drawdown. There are distressed sellers discounting investments by 20% to 50%, and this provides good selective opportunities for secondary investors and ultra-high-net-worth clients."