The Grind Continues for Many Hedge Fund Managers

Whilst there is a constituency within the hedge fund industry which have obtained the Hollywood version of the trappings of success in the financial sector - the cars, the ranches, and the (part-owned) private jet - there is also a very long tail of funds which have not been in performance fee nirvana for some years.

Barton Biggs gave a very good  insight into the under-reported downside of running a hedge fund business in his book Hedgehogging. He told the story of an acquaintance who had put in a good year for performance, so collected a handsome performance fee for his added value. But as the manager's style of investment wasn't suited for subsequent market conditions, the following years were rough. The fund manager had to attend all his usual company meetings, read copious amounts of material, track stock market shifts, talk to his investors and put his ego on the line by selecting stocks. He had to put in long hours running his own small business as well as being a full-time professional investor - dealing with accountants, lawyers, budgets, planning, and hitting deadlines for regulatory filings and statutory reporting. All this while not making big money - in fact the big money of the fat year was ploughed back into the business for the subsequent lean years.

There are many challenges running a small business. In the hedge fund segment, in which the spoils go to the victors of the war of performance, not the least of the challenges is to retain (smart, professional, and mobile)  staff  who have no prospect of a bonus for some time. When the average hedge fund fell 19% in 2008 that presented the challenge of returning 23.4% to get back to the NAV of the start of that year. For most hedge funds that is two good years of returns. So staff could only get paid a meaningful bonus at the end of year three - that is, get paid at the start of year four! Hence staff defections from the hedge fund losers of 2008 was a theme of 2009 and into 2010.

The business school tenet for running a business like managing hedge funds is to build your expenses to be in line with your regular revenue, i.e. on the management fees. The performance fee is often characterised as the gravy in the meal, but if the base diet is thin gruel then gravy is not what a diner wants as a supplement.

And small gleanings are what have been available to many managers. It was reported here in a recent article that around half of Europe's largest hedge fund manager groups had not gathered more assets in the middle six months of last year - so the base revenues of the businesses were not expanding. However, by the end of September last year only 5% of the assets of the largest managers in Europe were not qualified to pay performance fees because of the high water mark feature. So by extension, with a further five months of positive hedge fund returns, most of the world's large hedge fund groups are now accruing performance fees. The well known names who run these businesses will be able to buy a larger house in the Hamptons if they choose. The more socially sensitive of them will be able to fund another urban academy in a deprived neighbourhood.

However, there are many dedicated hedge fund managers who will not be in a position to fund such largesse, or even take a house in Vail for the season. Eurekhedge reports that fully 42% of hedge funds are still below their end 2008 NAV at the end of February.

Moore Capital's Bacon Tops the UK Hedge Fund Rich List

Each year "The Sunday Times" profiles the 1,000 richest people and families in the UK and the wealthiest 250 in Ireland. The list is based on identifiable wealth (land, property, other assets such as art and racehorses, or significant shares in publicly quoted companies), and excludes bank accounts (to which the paper has no access). The table below ranks the UK domiciled hedge fund managers in the List.

The big hedge fund winners, or at least gainers, in the last year have been:

• London resident and macro maven Louis Bacon is the first hedge fund manager to be credited in this List with a net worth in excess of a billion Pounds. George Soros, who maintains a house in London, has only failed to make the List now and previously because he is not domiciled here.
• Global macro clearly had a good period recently because Alan Howard (of Brevan Howard) is credited with an increase in wealth of half a billion pounds since the last ranking was compiled.
• The other investment strategy that is strongly represented at the top of the hedge fund List is CTA. BlueCrest founders Mike Platt and Bill Reeves are ranked equal fifth, coming  just after David Harding of Winton Capital. 

• Perhaps the only surprise is a calculation that the net worth of Arpad Busson of EIM has jumped by 71% in the last year.

From the GLG Earnings Release - Flows, High Water Marks and the Outlook for CB Arbitrage

From the Full Year Statements for GLG Partners Inc.

Noam Gottesman, Chairman and Co-CEO of GLG said : “Encouragingly, AUM flows at GLG have turned definitively positive over the past six months and looking forward, I am confident that GLG remains well-positioned to be a leading beneficiary as industry flows expand."

4Q net inflows of $723 million, mostly reflecting interest in GLG's alternative strategy managed accounts,. Net inflows in the 3Q (across long only and hedge) were $216m.



Conference Call Extracts on Flows, High Water Marks and the Outlook for CB Arbitrage


Noam Gottesman
“In fact, we are seeing growing interest in GLG from both existing and potential clients. Our organic net flows were positive again in the fourth quarter, after turning positive in the third quarter, following six months of stabilizing trends. Importantly, the redemption wave that crested late in 2008 now appears well behind us.

"Further, though the pacing and scale of this next cycle of inflows remain difficult to forecast, we believe it has definitely begun. It is notable that we gained several significant new client relationships in the quarter, including among others, a prominent sovereign wealth fund and a European Insurance company.

"At the end of the fourth quarter we had approximately $7.5 billion in AUM above water within 5% of high watermark, part of a potential 12.5 billion in performance fee eligible assets under management. We have another 0.8 billion in AUM within five to 10% of the respective high watermark.

"I'm strongly encouraged by the flows we have seen during the second half of 2009 and in the early weeks of 2010."



Jeff Rojek, CFO

At the end of December, we had roughly 7.5 billion out of a possible 12.5 billion of performance fee eligible AUM, above or within 5% of their respective high watermarks. These numbers include AUM, special asset vehicles and other liquidating strategies.

Broken down by strategy, approximately 3.2 billion of our alternative AUM, 0.9 billion of our long-only AUM, and 1.7 billion of our 130/30 strategies or similar AUM is above water. Also, approximately, 0.4 billion of our alternative AUM, 0.2 billion of our long-only AUM, and 1.1 billion of our 130/30 strategies or similar AUM is within 5% or less of their respective high watermarks.

Of the remaining five billion of AUM under water, 1.8 billion is in alternative strategies and 3.2 billion is in our long-only strategy. Briefly again even further 0.4 billion of alternative AUM and 0.4 billion of long-only AUM is between five and 10% of their respective high water marks. 0.8 billion of alternative AUM and 1.7 billion of long-only AUM between ten and 30% of their high water marks. While 0.7 billion of alternative AUM and as 1 billion of long-only AUM is more than 30% below the high water marks.



Q&As


(A - Noam Gottesman, Chairman and Co-Chief Executive Officer): We're very encouraged by what we're seeing in the pipeline. The inflow cycle as we mentioned, it's hard to sort of guage the pacing, the magnitude but we're actually seeing it pretty much across the board, definitely seeing a lot of alternative interest now, and whereas in the previous few months, there were some alternative but mainly traditional. But we are - we're seeing very strong flows into the Long-Short products, we're seeing strong flows into emerging market. And convertible, we're seeing very good interest in the UCITS III product,

...A large part of the 4Q flows were from sovereign investors in long only mandates.


A - Noam Gottesman, Chairman and Co-Chief Executive Officer): Yes, generally, I think, people are definitely allocating. There is no question. There is certainly an awful lot of interest, and I think they're not doing it because they're bored. I think they've got money to put to work, and alternatives definitely delivered. And I think the prospects are looking bright for the industry right now.



(Q - Roger Freeman): Are you finding that you're coming in as a result of manager substitution or are you coming in as an additional manager?

(A - Noam Gottesman, Chairman and Co-Chief Executive Officer): I think it's both. I think the people sat on their hands for much of last year. They redeemed in some places, but they sat on their hands. They're just - I'm not really seeing - it's hard for me to gauge where it's coming from, but it's definitely coming.

… The alternative assets continued to be at full alternative fees, we are not seeing any real pricing pressure there.



(Q - Roger Freeman): What are your thoughts on the convert market outlook? I think, you mentioned there was strong interest in the fourth quarter. Issuance seems to have been light so far this year relative to what people were expecting. Do you see a lot of issuance coming down the pike, and is that a key to driving returns and flows in that area?

(A - Noam Gottesman, Chairman and Co-Chief Executive Officer): I think we're still very positive on the convertible market and we were for - we have been, as you know. And it’s a market that's done exceptionally well. Our convertible funds - our convertible arbitrage funds - have continued to perform very strongly, including in January where the convertible arbitrage fund, I think, was up close to 9%.

We think issuance will continue. And we think that new deals are going to have to come cheap, and I think it's going to provide opportunities. And the volatility in the market should be very beneficial. So we do continue to feel strongly positive on it. We also believe that there would be a large M&A flow that continues, which will also drive new issuance.

GLG Global Convertible Fund versus Bloomberg Active Convertible Index

Shallow/Narrow Profits Recovery for the HF Industry

Credit Suisse Tremont Index LLC yesterday released a new research piece, "Q3 2009 Hedge Fund Update: On the Road to Recovery". One of the points the report makes is that 26% of all hedge funds have “fully recovered” their losses from 2008, i.e., they have regained all losses to meet or surpass previous peak performance levels.

Last year around 30% of hedge funds made a positive absolute return. So given that, the proportion of hedge funds hitting their high water marks this year is still relatively low. This reinforces the point that last years winners are this years losers in the performance ranking stakes. Better profitability for hedge fund firms as a whole is still not here yet.

Last week HFR of Chicago released their take on the flows of 3Q 2009. They said that "Over two-thirds of all hedge funds experienced capital inflows in 3Q, accounting for over $38 billion in new assets; however, these gains were largely offset by over $37 billion in capital outflows from investor redemptions and liquidations, resulting in a net inflow of only $1.1 billion."

HFR continued that "In contrast to the first half of 2009, redemptions were concentrated in specific strategies. Hedge funds in the Relative Value Arbitrage and Event Driven space experienced a total net redemption of more than $5.7 billion during the period."

So while flows have gone from negative to positive for the industry, only in some strategies and only for some managers within them is decent profitability being attained.