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STONE MOUNTAIN CAPITAL RESEARCH PERSPECTIVE VOL.55
The hedge fund industry is recuperating after two years of struggle. During the first half of 2017 hedge funds lived up to their investors’ expectations, who are looking to increase their hedge fund exposure for diversification and risk-return enhancement. The industry approximates $3.2 trillion in assets under management (AuM) across all strategies according to BarclayHedge with over five thousand institutional investors eyeing on the space of over 15,000 hedge fund strategies globally. Those numbers suggest an overcrowded space and considering data from the Asset Management Association of China, managers in China reach 25,000, the industry is in need of more regulatory attention.
Active management is again in demand and hedge funds will have to compete with their peers to attract more assets and it will be worthy to observe the fundraising arena. Using data from BarclayHedge for five main core strategies AUM, we observe that the main investor focus is on equity hedge (long/short, long-only and market neutral) and fixed income strategies, which are accounting for 25% and 18% respectively of hedge fund AuM. Macro and CTA strategies with $600bn account for 18%, while event-driven strategies are occupying only 5% of the industry’s AuM.
The hedge fund industry is recuperating after two years of struggle. During the first half of 2017 hedge funds lived up to their investors’ expectations, who are looking to increase their hedge fund exposure for diversification and risk-return enhancement. The industry approximates $3.2 trillion in assets under management (AuM) across all strategies according to BarclayHedge with over five thousand institutional investors eyeing on the space of over 15,000 hedge fund strategies globally. Those numbers suggest an overcrowded space and considering data from the Asset Management Association of China, managers in China reach 25,000, the industry is in need of more regulatory attention.
Active management is again in demand and hedge funds will have to compete with their peers to attract more assets and it will be worthy to observe the fundraising arena. Using data from BarclayHedge for five main core strategies AUM, we observe that the main investor focus is on equity hedge (long/short, long-only and market neutral) and fixed income strategies, which are accounting for 25% and 18% respectively of hedge fund AuM. Macro and CTA strategies with $600bn account for 18%, while event-driven strategies are occupying only 5% of the industry’s AuM.
Figure 1. Core Hedge Fund Strategies AuM, Source: BarclayHedge, Stone Mountain Capital Research
We analyse inflows in each sub-asset class as compared to their performance since 2004. Event-driven strategies suffered massive outflows in 2011 and 2012, after a flat performance in 2010 before reaching their AuM peak in 2014. Two consecutive drawdown years urged investors to redeem from the space from 2014 to 2016, but the strong performance in 2016 and year to date in 2017 is reversing the situation. Fixed Income strategies, as evidenced in Figure 2, were the best performing strategies over the examined period and suffered redemptions only during 2008 crisis. Equity hedge and macro strategies exhibited relatively flat performance, with investors retreating from equity hedge funds during 2008 crisis and in 2012 after a huge drawdown in 2011, whereas macro managers are constantly attracting new money as investors seek for top quality managers. Finally, CTAs find themselves in all-time highs in the assets they manage, but without performing as expected.
Figure 2. Core Hedge Fund Strategies Index Value, Source: HFR, Stone Mountain Capital Research
The above figure exhibits clearly the appetite for equity and fixed income hedge funds over the last years, but this year’s outlook seems changed as investors’ preferences turn to more systematic strategies despite their underperformance. The reason is that the industry is shifting to a more data-driven model that utilizes advanced mathematics and statistics to navigate the markets. Removing the human bias during crisis events maybe another reason as investors are concerned of the future ahead, which looks challenging to judge. Investors eye an increase in volatility and this perception urges investors to look for diversification in CTAs and pure volatility strategies, while discretionary macro managers are enjoying a set of opportunities within the current environment in rates, currencies, emerging markets and commodities. Long/Short equities witnessed some outflows, which mainly hit the “1-billion club” managers, while investors are targeting niche equity managers with lower capacity for new allocations. Traditionally, managers with established AuM have been attracting most of the industry’s assets, with 701 firms managing around 88% of total assets, with most managers Theron being between $1 to $5 billion AuM. Most of equity, relative value, macro and CTA “1-billion club” managers manage more than $20billion, whereas the majority of managers within credit and event-driven space manage between $10 and $20 billions.
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Figure 3. One-Billion Club AuM and Strategies, Source: Preqin
The concentrated industry combined with the excessive number of hedge funds fighting for capital leads to more closures than launches. Regulatory costs and the need for track record does not allow many managers to progress and establish their brand in the space. Institutional first-stage focus is mainly on liquidity, size, structure and track record of the manager. With only 701 firms occupying around $2.8bn, there are at least 14,000 (excluding Chinese unregulated vehicles) that compete for the rest $400bn. The industry may grow to higher levels, but allocations will be directed to mid-sized managers leading to a consolidation of the industry in terms of number of funds. This consolidation is expected to favor managers between $300 million and $1 billion, which have the capacity and the flexibility to execute in a market with less crowded trades.
Figure 4. Number of Strategies Launched and Closed, Source: Eurekahedge
In the fundraising arena, we should not forget private debt strategies as a main competitor to hedge funds. Strategies offering monthly liquidity and income will compete with more “traditional” hedge fund strategies. The recent retrenchment of banks from middle market and SME lending due to high regulatory capital requirement in RWA (risk-weighted assets) provides managers and investors with opportunities. US and Europe are the main markets that have strong fundamentals and generate robust returns due to the crucial importance of these companies to the real economy. Private debt constitutes a $600 billion industry, one fourth of which is attributed to direct lending strategies. Figure 5 illustrates the appealing risk-return profile of direct lending strategies both in the US and Europe compared to other corporate debt related strategies.
Figure 5. Corporate Capital Stack Spectrum in US and EU June 2017, Source: Barclays Research, Stone Mountain Capital Research
The direct lending market has developed over the last decade as seen in figure 6, and more managers set up vehicles to exploit the opportunity created. Investors are looking for more senior lending opportunities to navigate the current debt cycle and the credit quality of the underlying loans is of highest importance. The momentum favors direct lending strategies with the prevailing market conditions and yield compressions, and the diversification offered to every institutional portfolio is leading the fundraising efforts.
Figure 6. Direct Lending Assets under Management, 2006 - 2016, Source: Preqin Private Debt
This perspective is neither an offer to sell nor a solicitation of an offer to buy an interest in any investment or advisory service by Stone Mountain Capital LTD. For queries please contact Alexandros Kyparissis under email: alexandros.kyparissis@stonemountain-capital.com and Tel.: +44 7843 144007. For further information around our research and advisory services please contact Oliver Fochler under email: oliver.fochler@stonemountain-capital.com and Tel.: +44 7922 436360. For information about our alternative investment solutions, please contact: ir@stonemountain-capital.com.
The views expressed in this article are those of the authors and do not necessarily represent the views of, and should not be attributed to, Stone Mountain Capital LTD. Readers should refer to the Disclaimer.
Stone Mountain Capital LTD (FRN: 729609) is an Appointed Representative of LNG Capital LLP (FRN: 454402), which is authorised and regulated by the Financial Conduct Authority (‘FCA’). Stone Mountain Capital LTD is the Distributor of foreign collective investment schemes distributed to qualified investors in Switzerland. Certain of those foreign collective investment schemes are represented by First Independent Fund Services LTD, which is authorised and regulated by the Swiss Financial Market Supervisory Authority ('FINMA') as Swiss Representative of foreign collective investment schemes pursuant to Art 13 para 2 let. h in the Federal Act on Collective Investment Schemes (CISA). Stone Mountain Capital LTD conducts securities related activities in the U.S. pursuant to a Securities and Exchange Commission ('SEC') Rule 15a-6 Agreement with Crito Capital LLC, a U.S. SEC registered broker-dealer, and member of Financial Industry Regulatory Authority ('FINRA') and Securities Investor Protection Corporation ('SIPC').
Copyright © 2017 Stone Mountain Capital LTD. All rights reserved.
Any business communication, sent by or on behalf of Stone Mountain Capital LTD or one of its affiliated firms or other entities (together "Stone Mountain"), is confidential and may be privileged or otherwise protected. This e-mail message is for information purposes only, it is not a recommendation, advice, offer or solicitation to buy or sell a product or service nor an official confirmation of any transaction. It is directed at persons who are professionals and is not intended for retail customer use. This e-mail message and any attachments are for the sole use of the intended recipient(s). Our LTD accepts no liability for the content of this email, or for the consequences of any actions taken based on the information provided, unless that information is subsequently confirmed in writing. Any views or opinions presented in this email are solely those of the author and do not necessarily represent those of the limited company. Any unauthorised review, use, disclosure or distribution is prohibited. If you are not the intended recipient, please notify the sender by reply e-mail and destroy all copies of the original message and any attachments. By replying to this e-mail, you consent to Stone Mountain monitoring the content of any e-mails you send to or receive from Stone Mountain. Stone Mountain is not liable for any opinions expressed by the sender where this is a non-business e-mail. Emails are not secure and cannot be guaranteed to be error free. Anyone who communicates with us by email is taken to accept these risks. This message is subject to our terms at: www.stonemountain-capital.com/disclaimer.
The views expressed in this article are those of the authors and do not necessarily represent the views of, and should not be attributed to, Stone Mountain Capital LTD. Readers should refer to the Disclaimer.
Stone Mountain Capital LTD (FRN: 729609) is an Appointed Representative of LNG Capital LLP (FRN: 454402), which is authorised and regulated by the Financial Conduct Authority (‘FCA’). Stone Mountain Capital LTD is the Distributor of foreign collective investment schemes distributed to qualified investors in Switzerland. Certain of those foreign collective investment schemes are represented by First Independent Fund Services LTD, which is authorised and regulated by the Swiss Financial Market Supervisory Authority ('FINMA') as Swiss Representative of foreign collective investment schemes pursuant to Art 13 para 2 let. h in the Federal Act on Collective Investment Schemes (CISA). Stone Mountain Capital LTD conducts securities related activities in the U.S. pursuant to a Securities and Exchange Commission ('SEC') Rule 15a-6 Agreement with Crito Capital LLC, a U.S. SEC registered broker-dealer, and member of Financial Industry Regulatory Authority ('FINRA') and Securities Investor Protection Corporation ('SIPC').
Copyright © 2017 Stone Mountain Capital LTD. All rights reserved.
Any business communication, sent by or on behalf of Stone Mountain Capital LTD or one of its affiliated firms or other entities (together "Stone Mountain"), is confidential and may be privileged or otherwise protected. This e-mail message is for information purposes only, it is not a recommendation, advice, offer or solicitation to buy or sell a product or service nor an official confirmation of any transaction. It is directed at persons who are professionals and is not intended for retail customer use. This e-mail message and any attachments are for the sole use of the intended recipient(s). Our LTD accepts no liability for the content of this email, or for the consequences of any actions taken based on the information provided, unless that information is subsequently confirmed in writing. Any views or opinions presented in this email are solely those of the author and do not necessarily represent those of the limited company. Any unauthorised review, use, disclosure or distribution is prohibited. If you are not the intended recipient, please notify the sender by reply e-mail and destroy all copies of the original message and any attachments. By replying to this e-mail, you consent to Stone Mountain monitoring the content of any e-mails you send to or receive from Stone Mountain. Stone Mountain is not liable for any opinions expressed by the sender where this is a non-business e-mail. Emails are not secure and cannot be guaranteed to be error free. Anyone who communicates with us by email is taken to accept these risks. This message is subject to our terms at: www.stonemountain-capital.com/disclaimer.
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