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Activist hedge funds: Party ain’t over for activists

"The private equity party is over," says Kevin Dolan, chief executive of $5 billion fund of hedge funds La Fayette Investment Management in London. The credit crunch has made it difficult for private equity firms to take companies private, and that is good news for activist hedge funds, he claims.

La Fayette launched an internal fund of activist hedge funds last May that it is now touting to external investors. The fact that activist hedge funds take a similar approach to private equity funds is an attractive offer to investors that have now been encouraged to look at alternatives. "They identify undervalued companies, submit a road map for greater shareholder value creation and have to convince boards to work with them. It is a similar strategy [to private equity] but with the exception that the firms are not planned to be taken private," says Dolan.

The shorter lock-up offered by activists is appealing to investors, as is the fact that the hedge funds are not applying leverage. Dolan says as much as 75% of the internal rate of return of some private equity deals was generated from leverage when leverage should generate no more than 25% of IRR. "Private equity is a great asset class, but the lack of discipline from banks made leverage levels get out of control," Dolan says. "It is healthy for investors as well as private equity funds, which will need to generate returns the old-fashioned way. Activist funds can offer a natural alternative with lower risk, shorter lock-ups and lower volatility."

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