25 Nov 2009
New launches, a return to growth in assets under management and some of the best performance figures ever are all helping to spark a bit of pre-Christmas cheer among hedge fund managers – or at least those managers with funds close to their high water mark. Now Huw van Steenis, the influential Morgan Stanley research analyst, has proclaimed that the future for hedge funds is beginning to look promising again.
Van Steenis is also forecasting that hedge fund AUM could return to the mid-2007 peak of around $1.75 trillion by the fourth quarter of 2010. Morgan Stanley research suggests that sovereign wealth funds, foundations and pension funds have overtaken endowments, high net worths and funds of hedge funds as the largest source of investment capital. It has also found that endowments are still hurting from investing in illiquid strategies and that the interest of Swiss private banks for investing in funds of funds remains “subdued”.
The report terms the regulatory landscape “fluid”, but notes that some policymakers realise “the supportive role” of risk capital providers. It also cites research to the effect that some 30-40% of bank recapitalisations in the US and Europe in 2009 were funded by hedge funds.
In the UK, the report estimates that third quarter inflows of $2.1 billion to absolute return funds, including UCITS III funds, were three times higher than in the first quarter. Van Steenis expects positive inflows in the current quarter to continue but adds that sentiment remains fragile amid possible reputation risk (Madoff, Galleon, etc.), uncertainty about regulatory outcomes and the drag on the industry exerted by redemptions from previously gated funds.
For funds of funds, the report has found that fees are compressing by 50 to 100 basis points, though providers with the infrastructure to offer additional risk and liquidity management via managed accounts may be less affected. With single manager strategies, liquidity rather than fee levels is the greater focus among investors. He characterises single strategies as more performance elastic, rather than price elastic, supporting fee levels for those with strong performance and capacity constraints, though stickier asset providers may be able to negotiate some fee concessions.
Van Steenis expects the evolution of US/EU regulations to raise the bar in favour of players with institutional infrastructure. In addition, potential US moves on position limits (and the related removal of swap deal exemptions) risk a reduction in market liquidity and may crimp investment opportunities.
On EU regulations, where the focus is on leverage, marketing, prime broking/custodian arrangements and, now, compensation, Morgan Stanley’s “base case assumes a pragmatic approach will be taken, as we believe regulators will seek to avoid unintended consequences (activities moving offshore or to new venues), (but) we nevertheless see this significant uncertainty as posing risks. He adds: “We believe scale is the best hedge to regulatory uncertainty – we expect that compliance costs and capital creep will favour players with strong capital and institutional scale,” noting an estimate by Charles River of a potential one-off cost impact for the industry of $1.4 billion.
Van Steenis reiterated his ‘overweight’ rating on Man Group with an unchanged price target of 400 pence versus its closing price of 330 pence on Tuesday. He also reiterated an ‘equal-weight’ rating on Gottex, the Swiss funds of funds operator, but cut the price target to SFr 9.80 (from SFr13.10) compared with a closing price SFr8.30 on Tuesday.
“We see the early stages of a turnaround in hedge fund flows with redemption pressures easing and inflows growing,” van Steenis wrote in a note published this week. “We think the market is underestimating the potential upsurge in demand for absolute return funds from private clients and smaller institutions via UCITS III.”
Van Steenis is also forecasting that hedge fund AUM could return to the mid-2007 peak of around $1.75 trillion by the fourth quarter of 2010. Morgan Stanley research suggests that sovereign wealth funds, foundations and pension funds have overtaken endowments, high net worths and funds of hedge funds as the largest source of investment capital. It has also found that endowments are still hurting from investing in illiquid strategies and that the interest of Swiss private banks for investing in funds of funds remains “subdued”.
The report terms the regulatory landscape “fluid”, but notes that some policymakers realise “the supportive role” of risk capital providers. It also cites research to the effect that some 30-40% of bank recapitalisations in the US and Europe in 2009 were funded by hedge funds.
In the UK, the report estimates that third quarter inflows of $2.1 billion to absolute return funds, including UCITS III funds, were three times higher than in the first quarter. Van Steenis expects positive inflows in the current quarter to continue but adds that sentiment remains fragile amid possible reputation risk (Madoff, Galleon, etc.), uncertainty about regulatory outcomes and the drag on the industry exerted by redemptions from previously gated funds.
For funds of funds, the report has found that fees are compressing by 50 to 100 basis points, though providers with the infrastructure to offer additional risk and liquidity management via managed accounts may be less affected. With single manager strategies, liquidity rather than fee levels is the greater focus among investors. He characterises single strategies as more performance elastic, rather than price elastic, supporting fee levels for those with strong performance and capacity constraints, though stickier asset providers may be able to negotiate some fee concessions.
Van Steenis expects the evolution of US/EU regulations to raise the bar in favour of players with institutional infrastructure. In addition, potential US moves on position limits (and the related removal of swap deal exemptions) risk a reduction in market liquidity and may crimp investment opportunities.
On EU regulations, where the focus is on leverage, marketing, prime broking/custodian arrangements and, now, compensation, Morgan Stanley’s “base case assumes a pragmatic approach will be taken, as we believe regulators will seek to avoid unintended consequences (activities moving offshore or to new venues), (but) we nevertheless see this significant uncertainty as posing risks. He adds: “We believe scale is the best hedge to regulatory uncertainty – we expect that compliance costs and capital creep will favour players with strong capital and institutional scale,” noting an estimate by Charles River of a potential one-off cost impact for the industry of $1.4 billion.
Van Steenis reiterated his ‘overweight’ rating on Man Group with an unchanged price target of 400 pence versus its closing price of 330 pence on Tuesday. He also reiterated an ‘equal-weight’ rating on Gottex, the Swiss funds of funds operator, but cut the price target to SFr 9.80 (from SFr13.10) compared with a closing price SFr8.30 on Tuesday.
