Institutional investors are gearing up to integrate hedge funds into their equity and fixed-income portfolios, part of a growing trend toward allocating assets based on their sources of return — alpha and beta.
After years of maintaining separate and usually quite small allocations to hedge funds, more investors are recasting the role of hedge funds in their portfolios, sources agreed.
Consultants, hedge fund-of-funds managers and risk management system providers reported a dramatic spike in the number of pension executives who are seriously thinking about emulating their endowment and foundation brethren in being agnostic over whether managers run long-only or hedged strategies.
The result, sources said, likely will be a boon for hedge fund managers as institutions abandon their low limits to hedge funds, now typically between 3% and 5% of assets.
“I don't think there's a difference between hedge funds and regular managers when it comes to risk assessment and portfolio construction. More investors are thinking about how to include, rather than exclude, hedge funds from the asset class categories appropriate to the investment strategy, beyond the small group of very sophisticated institutional investors that adopted this approach some years ago,” said Maarten Nederlof, managing director and head of portfolio solutions at Pacific Alternative Asset Management Co. LLC, Irvine, Calif. PAAMCO manages $9 billion in hedge funds of funds.
The driver behind the shift was last year's market crash. Sources said institutional investors were surprised by the revelation that the total market exposure — known as beta — of their separate equity, fixed income and hedge fund allocations was larger than thought. Combining hedge funds and long-only managers into a single portfolio allows the fund's investment staff to better understand and manage sources of both alpha and beta, consultants and money managers said.