Institutional interest in portfolios of hedge funds managed by minority- and women-owned firms is rising, but finding enough talented managers to put large allocations to work is a challenge.
Asset owners earmarked $850 million for investment in dedicated minority- and women-owned hedge fund portfolios in 2014, with some searches extending into this year, Pensions & Investments' reporting shows.
But these programs have more difficulties than those focused on traditional investment strategies, sources said.
For one thing, the universe of hedge fund companies with substantial ownership by minorities or women numbers only 350, with the vast majority managing less than $250 million (often much less) with short performance track records and varying degrees of institutional infrastructure, said David J. Katz, president and chief operating officer of hedge funds-of-funds and seeding specialist manager Larch Lane Advisors LLC, Rye Brook, N.Y.
Only 20 or so minority- or women-run hedge fund companies manage at least $1 billion, the most common minimum size criterion for institutions, Mr. Katz estimated. Size is important because many institutions can't let their investment represent more than 20% of a manager's total assets. Also, many firms in the minority-/women-owned universe have yet to hit the three-year track record required by institutional prospects.
“If you look at who comes out of the investment banks, bank proprietary trading desks and hedge funds to set up their own firms, there really are very few minority and women managers,” said Putri S. Pascualy, managing director and portfolio manager at hedge funds-of-funds manager Pacific Alternative Asset Management Co. LLC, Irvine, Calif.
“First and foremost, the manager has to be a superb investor, an institutionally oriented hedge fund manager with a good pedigree, experience and enough personal net worth to be able to live without a paycheck for a couple of years as the firm is built out. These are high bars.” If any of the remaining firms happens to be minority- or women-owned, “that's an extra cherry on the cupcake,” Ms. Pascualy said.
PAAMCO manages $9.5 billion in hedge funds-of-funds strategies, of which $1.5 billion is invested in emerging managers, including a high proportion of minority-/women-owned firms, she said.
Because of the complexity involved in investing in minority-/women-owned hedge funds, few institutional investors have been tempted to set up their own programs, turning instead to hedge funds-of-funds managers, sources said. Many institutions work around their high minimum AUM requirements by investing through a fund-of-funds vehicle.
Assets allocated to minority-/women-owned hedge funds-of-funds portfolios in the past year topped $850 million from a group of institutions including the $163.4 billion New York City Retirement Systems, in which three of the five pension funds in the system have such portfolios; $178.3 billion New York State Common Retirement Fund, Albany; and $29.4 billion Connecticut Retirement Plans & Trust Funds, Hartford.
The Illinois State Board of Investment, Chicago, recently hired funds-of-funds managers The Rock Creek Group LP and Appomattox Advisory Inc. to invest $100 million and $50 million, respectively, in minority-, women- and disabled- or veteran-owned emerging hedge fund managers, said William R. Atwood, executive director.
ISBI, which oversees $15.1 billion, is seeking to diversify its $1.5 billion hedge fund allocation, all in funds of funds, Mr. Atwood said. Pro rata funding for the two new customized portfolios will come from its existing hedge funds-of-funds mangers, including Rock Creek, which already had $577 million, as well as Entrust Partners LLC with $564 million, and Mesirow Advanced Strategies Inc. with $375 million, Mr. Atwood said.
Marquette Associates, ISBI's investment consultant, assisted with the search.
Competition among hedge funds-of-funds managers for capacity is fierce given the small number of minority-/women-owned firms that meet the optimal criteria Ms. Pascualy described.
Scott C. Schweighauser, partner and president of hedge funds-of-funds manager Aurora Investment Management LLC, Chicago, said he's seeing increased demand from corporate and public funds, endowments and foundations for minority- and/or women-owned hedge fund portfolios and an equally strong pipeline of up-and-coming hedge fund managers in which to invest.
“We had invested in a number of great minority- and women-owned hedge funds for years without considering their ownership structure at all. So when institutional investors began to ask us about dedicated mandates in this area, we already had managers in place and were tracking other promising companies,” Mr. Schweighauser said.
Aurora is one of the largest managers of pure-play minority- and women-owned firms, with $1 billion in the strategy.
One client is the $34.9 billion Illinois Municipal Retirement Fund, Oak Brook, which asked Aurora to create a dedicated minority-/women-owned portfolio within the $607 million hedge fund-of-funds mandate the firm has managed for the pension fund since 2012. As of Dec. 31, such firms managed $152.72 million, or about 25% of the overall account, said Megha Kauffman, an IMRF spokeswoman, in an e-mailed response to questions.
Progress Investment Management Co. LLC, San Francisco, on the other hand, is well-known as a manager of emerging managers, with $8.5 billion invested across all asset classes, including $100 million invested in a new minority-/women-owned focused hedge fund approach, said Andrew Finver, director of hedge fund research.
“We get an early jump on many new hedge fund managers because Progress is wellknown as an emerging manager specialist and they call us,” Mr. Finver said.
Mr. Finver said while other hedge funds-of-funds managers won't look at hedge funds with less than $250 million, Progress will consider smaller managers.
“It takes some work and expertise to get comfortable with investing with a $100 million manager, but it means that we can take a $100 million (minority-/women-owned) hedge fund mandate and spread it out in $10 million blocks to 10 managers, and that helps keep our investors from going over their 20% limit of a manager's total AUM,” Mr. Finver said. n
Editorial Page Editor Barry Burr contributed to this story.
This article originally appeared in the February 23, 2015 print issue as, "Investors find talent, size elusive among emerging hedge fund firms".