Hedge funds wanted after investors lose complacency

Hedge fund managers that have successfully navigated their way through the first half of this year and are producing good returns are in demand by institutional investors that are adding more hedge fund exposure to their portfolios and/or are upgrading lackluster managers with better choices.

"There's a sense of optimism from hedge fund managers, backed up by investors," said Thomas P. Kehoe, managing director and global head of research and communications for the London-based Alternative Investment Management Association.

"More investors are interested in hedge funds, and are seeing a real tool they can latch on to in this difficult environment for preserving capital, managing volatility, mitigating risk and producing returns," Mr. Kehoe said.

In fact, high volatility in the first quarter this year was the catalyst for investors to consider more investment in hedge funds, said Kenneth J. Heinz, president of index provider Hedge Fund Research Inc., Chicago.

"A year ago, institutional investors were very complacent. They aren't anymore because of ultra-high equity valuations. They're building out their hedge fund portfolios by putting the unallocated portion of their hedge fund target to work," Mr. Heinz said.

From conversations with asset owners, Mr. Heinz said, "I don't think there has been this much institutional interest in hedge funds over the past 10 years."

Analysis of asset owners' hedge fund and hedge funds-of-funds hiring reported by Pensions & Investments in the six months ended June 30 showed a sharp rise in hedge fund hires — 50 totaling $4.5 billion.

The pace was more than double the 21 hires totaling $2.1 billion made in the second half of 2019. In the current quarter as of Aug. 31, 10 hedge fund hires totaling $660 million were made.

Twenty asset owners made partial and full redemptions totaling $2.6 billion in the first half of 2020 and nine terminations totaling $2.8 billion were announced between July 1 and Aug. 31, P&I data showed.

In contrast, a total of $675 million was redeemed from hedge funds/hedge funds of funds by six asset owners in the second half of 2019.

Consultants, hedge fund managers and other sources said the comparatively high rate of redemptions this year likely stemmed from manager replacements and strategy changes.

Part of the current hedge fund manager rotation may also be going to managers offering portfolio protection as well as positive returns, the sources said.

"Investors are most interested in defensive, diversifying hedge fund allocations," stressed Christopher W. Walvoord, partner and global head of liquid alternatives research and portfolio management, based in Aon Investments USA Inc.'s Chicago office.

Mr. Walvoord said institutional investors in particular are "looking for bond substitutes given predicted low returns for traditional fixed income such as event-driven, relative value, insurance-linked securities and opportunistic credit hedge fund strategies."

"Given uncertain markets, investors need to find a return stream. Who knows what equities will do after their big bounce back? Bonds are yielding zero. Hedge funds are one place institutional investors are looking to for protection and returns," Mr. Walvoord said.

Hedge fund managers said they have been seeing more hiring activity from North America than other regions.

London-based systematic manager Aspect Capital Ltd. has had "asset-gathering success in the U.S., particularly from public pension funds. U.S. investors have hardly skipped a beat in hiring, but European, Japanese and Australian investors have been slower to engage during the COVID-19 pandemic," said Martin Lueck, co-founder, president and research director.

Mr. Lueck said the firm has been having "two conversations with investors now," with some wanting positive returns in challenging down markets and others that want risk mitigation from the diversification benefits of the firm's systematic managed futures strategy.

Mr. Lueck declined to provide specifics, but said at the beginning of the COVID-19 outbreak in February and March, the firm's strategies "behaved as expected and we had great performance. It's been a very exciting time for Aspect."

Aspect managed $7.3 billion as of June 30, up 3.1% for the year and moved up to the 45th position from 50th in P&I's 2020 hedge fund survey, and also was among managers that attracted fairly large investments from U.S. investors.

Aspect Capital received a total of $443 million from three pension funds between July 1, 2019, and Aug. 31, P&I's reporting showed, including the largest allocation — $250 million — which came in two parts in March and June to Aspect Systematic Global Macro U.S. Fund from the $52.9 billion Teachers' Retirement System of the State of Illinois, Springfield.

Multistrategy hedge fund manager Hudson Bay Capital Management LP, New York, attracted the largest amount of new investment capital — $745 million from five pension funds — among hedge fund managers over the 14-month period.

The $58.2 billion Los Angeles County Employees Retirement System, Pasadena, Calif., invested $300 million in Hudson Bay Fund, a relative-value multistrategy fund, in May. Florida State Board of Administration, Tallahassee, which manages the $166 billion Florida Retirement System, invested $200 million in the same fund in April.

Hudson Bay's AUM rose 69.6% to $5.9 billion as of June 30, moving the firm to 55th from 77th in the survey.

Kirkoswald Asset Management LLC, New York, a newcomer to P&I's ranking in the 77th position with $2.7 billion, brought in $525 million to Kirkoswald Global Macro Fund over the year-plus period with $350 million in three installments coming from Illinois Teachers in August and October 2019 and March 2020 and $150 million invested by the $30.2 billion Indiana Public Retirement System, Indianapolis, in June.

Kirkoswald was launched in April 2018.

Only two managers in P&I's universe suffered a comparatively high level of redemptions.

Bridgewater Associates LP, Westport, Conn., retained first place in P&I's ranking, but assets were down 25.1% to $98.9 billion in the year ended June 30.

Analysis of reported hedge fund activities showed that Bridgewater had a total of $674 million in redemptions from three pension funds, with a total of $328 million coming from terminations by the $81.6 billion Virginia Retirement System, Richmond, with $150 million from Bridgewater Optimal Portfolio in April and $178 million from Bridgewater Pure Alpha II in June.

AQR Capital Management LLC, Greenwich, Conn., had redemptions of $227 million from four pension funds with the largest withdrawal of $104 million from the $4.3 billion San Mateo County Employees' Retirement Association, Redwood City, Calif., in May.

AQR managed $32.1 billion in hedge funds worldwide as of June 30, down 47.2% from a year earlier, which moved the firm to the 11th slot from fourth in 2019.