Institutional investors increasingly are turning to long/short equity hedge fund managers to control portfolio volatility at the expense of long-only equity managers.
Sources predicted that the combination of market conditions that will favor non-directional strategies and significant institutional hedge fund investment this year will make 2010 a banner year for long/short equity strategies.
Institutions that have moved into long/short equity for the first time or have increased their allocations include the San Bernardino County Employees' Retirement Association, City of Cincinnati Retirement System, Milwaukee County Employees' Retirement System, Oakland County Employees' Retirement System and Universities Superannuation Scheme.
Unlike the 2009 markets, which were “purely directional,” consultant Vidak Radonjic predicted that ”2010, on the other hand, will feature a mean reversion and will reward non-directional specialists. 2010 is all about alpha and how to capture it. To be equally good in all market conditions, managers have to be able to pick long and short bets. It's really the sweet spot for long/short equity.” Mr. Radonjic is managing partner, Beryl Consulting Group LLC, Jersey City, N.J.
Besides performance, after the liquidity crisis of 2008 and early 2009, many institutional investors now insist on investing in hedge funds that will give them their money back when they need it, sources said. Investors used long/short equity hedge funds — which tend to be on the liquid end of the spectrum — as ATMs in 2008, and are now seeking to restore and increase allocations to these strategies.
“Long/short equity hedge funds were impacted by redemptions in 2008 precisely because liquidity-starved clients could get money from them when other assets were locked up. Throughout 2009, we saw some very unbalanced portfolios with big overweights in less liquid asset classes. Long/short equity strategies will be the beneficiary of institutional money returning back into the market from rebalancing as well as from first-time investors,” said Joseph Larucci, partner and head of long/short equity manager research at hedge consultant Aksia LLC, New York.
In fact, consultant Aoifinn Devitt predicted that a “wall of money” will be aimed at long/short equity managers if pension funds collectively move over “even a fraction” of their traditional equity allocation. Ms. Devitt is a principal of Clontarf Capital, London.
A 10% shift to long/short equity strategies by the top 1,000 U.S. defined benefit plans would result in a move of about $350 billion, according to data collected by Pensions & Investments.
However, some long/short managers already are shutting some funds to new business.
Aksia's Mr. Larucci said many long/short equity managers have recovered their losses from 2008's market debacle and are beginning to close their funds because they experienced such significant inflows, mostly from large institutional investors.
“Some of our clients have taken advantage of some of the large, blue-chip long/short equity funds being open to new investors for a time, but a number of these funds are not accepting new inflows,” Mr. Larucci said, declining to name either clients or hedge funds in which they've invested.