Assets Under Management Fall for Hedge Funds

According to eVestment LLC, investors in hedge funds and hedge funds of funds withdrew $30.8 billion in the first half of 2016, bringing down the total assets under management to $3 trillion for the entire industry.  Poor performance seems to be the driver for the redemptions.  The HFRI Fund Weighted Composite index fell 2.4% during the same timeframe.  Momentum investors, who search for "the latest hot hedge fund performer", have nothing to invest in.  Kenneth J. Heinz, president, Hedge Fund Research Inc., said that investors are also re-allocating assets due to a change in tactical or strategic investing strategy or even re-balancing assets.

The usual suspects comprised the list of the largest hedge fund managers:  Bridgewater, AQR Capital Management and Man Group.  Several managers were off the list because of divestitures (J.P. Morgan Asset Management), non-responsiveness to the survey (Davidson Kempner Capital Management, Appaloosa, Pershing Square Capital Management, Paulson & Co. and Third Point) and spin-offs (Black River Asset Management).

The same was evident in the list of hedge funds of funds manager:  Blackstone Alternative Asset Management, UBS Hedge Fund Solutions and Goldman Sachs Asset Management.  There were a couple of deals (Entrust Capital Management and Permal Group) and (Aberdeen Asset Management and Arden Asset Management) that changed the rankings of the biggest managers.  The first merger was a response to competition from investment consultants.  The strategy is to "offer specialized, unique, niche-y strategies" according to Gregg Hymowitz, chairman and CEO of EnTrustPermal.

For the first half of 2016, 58% of hedge fund managers and 63% of hedge fund of fund managers had a decline in assets under management.  Investors dissatisfaction continues as they have become increasingly focused on short term performance.

The source for this article can be found here.

Assets Decline at the Largest Fund Managers

The results of the annual money management survey of the 500 largest asset managers were published in the May 30th issue of Pensions & Investments.  Last year, their assets under management dropped 2.8%.  Factors causing the money outflows were:

• Defined Benefit Plans - companies continuing the trend towards defined contribution plans
• Demographics - aging of the general population
• Decline of Oil Prices - caused petroleum based sovereign wealth funds to sell assets to make up national budget shortfalls
• Diversification - institutional investors are moving away from the largest asset managers; they are selecting smaller, niche managers to get uncorrelated returns
• Disappointing Stock Market Performance - the return of the Dow Jones Index was flat for the year
• Insourcing - sovereign wealth funds have started to manage their assets with internal investment teams or firms

The articles can be found here.

Liquidity Risk in the Bond Markets

According to an article in the March 21 edition of Pensions & Investments, hedge fund strategies focused on bonds such as relative value and long/short credit are facing increased liquidity risk due to unintended consequences of regulations such as Dodd-Frank and Basel III.  This is especially true in the junk bond arena.  The legislation closed the proprietary trading desks of the banks and increased capital reserve levels have caused a liquidity crunch.  In the past, the proprietary trading desks were the primary trading counterparties for hedge funds.  Some funds that have closed include Claren Road Asset Management, Third Avenue Focused Credit Fund, and Lutetium Capital.

Fund managers have responded in a variety of ways.  They have traded in smaller amounts, reduced their leverage and expanded their counterparties.  According to Aaron Dalrymple, head of credit at Cliffwater, smaller transactions of $5 million in capital are easier now.  There has been some outreach to pension funds and endowments as new trading partners, either directly or through a dark pool in Liquidnet.

Until the liquidity issue is resolved, firms are scaling down or closing credit strategies.  Investors have agreed.  In the second half of 2015, alternative investment data provided eVestment stated that there was no demand for credit strategies.

The Return of Funds of Hedge Funds

According to the March 7th issue of Pensions & Investments, investors are using fund of fund managers to manage their hedge fund portfolios.  They are turning to the largest managers such as BlackRock Inc., Blackstone Alternative Asset Management, Grosvenor Capital Management, Mesirow Advanced Strategies, J.P. Morgan Alternative Asset Management, Pacific Alternative Asset Management and UBS Hedge Fund Solutions.  There are several reasons for this change from the trend of directly investing in hedge funds:

• Internally managed portfolios have earned poor returns or are getting fund of hedge fund returns
• Investors are outsourcing their allocation models for niche, specialty or capacity constrained portfolios
• Florida State Board of Administration investing $300 million in the commodity trading advisor (CTA) niche
• Investors are allocating more to their alternative investment assets and want customized solutions
• Fresno County Employees' Retirement Association is adding to its portfolio - $156 million
• Plymouth County Retirement Association is increasing its hedge fund allocation by $10-20 million
• New investors want customized solutions
• Japan Post Bank wants to allocate $10 billion by March or April
• Illinois State Universities Retirement System hired Pacific Alternative Asset Management Co. and KKR Prisma to manage $500 million

According to Joshua Levine, managing director and head of business development, of BlackRock Inc., the new investors and existing investors allocating more assets are onboarding using separate managed accounts that "offer more control, better pricing and improved transparency".  The article does note that the largest, most well known fund of fund managers are receiving most of the new business.  Medium and small sized managers are not part of this trend.

Fund Managers Differ on the Impending Devaluation of the Chinese Yuan

In January 2015, the Swiss Franc rose dramatically in value as the Swiss National Bank removed its exchange peg to the Euro.  Many fund managers believe that the Chinese Yuan will be devalued in 2016.  There is a difference of opinion on how.

Some macro hedge funds believe the Yuan will be devalued by 20 - 50% in the coming months.  They include Corriente Partners and Omni Macro Fund and will be looking at investment flows after the Chinese New Year next week.  If the outflows continue, then they are predicting a one-time devaluation of the Yuan.  Other fund managers think that the Central Bank will manage a gradual devaluation.  The former set of managers are buying out of the money options.  The latter set of managers are selling these same options as a hedge.  They are buying options based on a 10% depreciation of the currency.

The source for this article can be accessed here.

There Are Buyers of Master Limited Partnerships Even in Commodity Sell-off

A fallout of the the crash in on oil prices has been the performance of Master Limited Partnerships (MLPs).  According to the January 11, 2016 issue of Pensions & Investments, the Alerian MLP Total Return index was down 43% from its peak in August 2014.  In the first two weeks of January alone, the Alerian MLP index is down 18%.  Anthony Merhige, general counsel and chief operating officer of Harvest Fund Advisors ($7.5 billion in MLP AUM), and Todd Williams, senior vice president, portfolio manager and senior research analyst of Westwood Holdings Group ($500 million in MLP AUM), are seeing interest from some investors even in this difficult environment.  Valuations have become lower and are attracting institutional investors.

Here are some investors that have made investments in the product in 2015:

• December 2015 - Ohio School Employees Retirement Systems invested $50 million with Harvest Fund Advisors
• December 2015 - Colorado Fire & Police Pension Association invested $25 million with Kayne Anderson Capital Advisors' Midstream MLP fund
• October 2015 - Dallas/Fort Worth International Airport Board invested $15 million with First Trust North American Energy Infrastructure Fund

In addition to the lower prices, institutional investors are buying because of the current yield, potential growth, diversification trends into real assets and the safety net of real asset collateral such as pipelines and storage.  Mr. Merhige believes that MLPs are transitioning from a retail to institutional investor dominated base that is less worried about the short term volatility.  The ten year return of the Alerian MLP index is 8.22% annually.  Adding the yield portion would give an investor a double digit return.

The source for this article can be accessed here.

Are Oil Prices Off the Cliff?

Oil is in an intense bear market.  The price for U.S. West Texas Intermediate Crude hit $29.93 per barrel recently due to concern about lowered demand from China and the ongoing supply glut.  "...Standard Chartered said fund selling may not relent until it reaches $10."  This has affected the oil sector, OPEC and the oil producing countries and the prices of certain investment products such as MLPs and High Yield bonds.

Energy companies such as Exxon Mobil and Royal Dutch Petroleum have seen their stock prices slide.  The sector has been down 9% in the last 9 days of trading.  Others are cutting capital expenditures and workers.

Countries affected negatively by the price slump are Russia, Saudi Arabia and the OPEC nations and shale oil dependent states in the U.S.  These include Alaska, North Dakota, Oklahoma, Louisiana and New Mexico.

As always, there are some buyers trying to catch a falling knife.  Gary Bradshow, portfolio manager of Hodges Small Cap Fund, is buying natural gas firms in the belief that oil will rally to $55 per barrel.

The source for this article can be accessed here.