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Institutions turn to hedge fund of funds for diversification, better returns

For the year ended June 30, the S&P 500 Total Return index was down 10.6% and the Bloomberg US Aggregate Bond index was down 10.3%, while year-to-date June 30, the S&P 500 Total Return index was down 20% and the Bloomberg US Aggregate Bond index was down 10.3%.

The paradigm shift from a decade of equity outperformance to the worst first half of the year since 1970 has rattled asset owners, said Joe Dowling, senior managing director and global head of Blackstone Alternative Asset Management LP, New York.

“The real dilemma for a CIO is what do you do when both bonds and equities are correlated and both are negative?” Mr Dowling added.

He stressed that “we’re still in the first inning with the early movers” regarding increased investment in hedge funds, noting that the pace of hires likely will increase through the end of the year and continue into 2023.

BAAM managed $80.1 billion as of June 30, of which about $50 billion was managed in hedge funds of funds and the balance in other alternative strategies.

BAAM’s net flows into hedge funds of funds and other alternative strategies totaled $2 billion in the quarter ended June 30, compared with $4 billion in the prior quarter, according to earnings reports from parent company Blackstone Inc.

Blackstone managed a total of $940.8 billion on June 30.

Because of the current correlation in equity and fixed income, portfolio diversification is essential as institutional investors seek uncorrelated strategies that some hedge funds can provide, said Victoria Vodolazschi, New York-based director, investments and hedge fund research at Willis Towers Watson PLC.

“Many hedge funds are underperforming this year and are very correlated to markets,” Ms. Vodolazschi said, noting that investors and their hedge fund-of-funds managers are adding low-correlation strategies to their portfolios, including discretionary and systematic macro strategies to add diversification.

Data from hedge fund research firm HFR Inc., Chicago, showed that hedge funds of funds returned -5.5% in the year ended June 30, according to the HFRI Fund of Funds Composite index, while the HFRI Fund Weighted Composite index was down 5.6% .

While negative, the one-year returns of the HFR hedge fund and hedge fund-of funds indexes were much better than those of the S&P 500 Total Return index and the Bloomberg US Aggregate Bond index as of June 30.

Both large and small institutional investors have invested in hedge funds of funds in 2022, including the South Carolina Retirement Investment Commission, Columbia, which allocated $150 million in April to Polymer Capital Management, a fundamentals-driven Asia-focused equity-market-neutral fund , from the $38.8 billion South Carolina Retirement Systems.

The $1.7 billion Memphis Light, Gas & Water Division, Memphis, Tenn. Invested $20 million with hedge-funds-of-funds manager Pointer Management Co., Chattanooga, Tenn.

In June, another small pension fund, the $481 million West Palm Beach (Fla.) invested $10 million in ETG Co-Invest Opportunities Fund II in the hedge fund-of-fund series managed by EnTrust Global Partners LLC, New York.

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