It’s those low expectations, more than perhaps anything else, that explains why big investors appear to be sticking with hedge funds in 2013 despite coming off another disappointing year.
For the most part, hedge funds got trounced by the market last year. The average hedge fund gained 5.5% in 2012, according to HFR, which meant investors of hedge funds were paying rich fees while low-fee S&P 500 index funds returned 16% in 2012.
Nevertheless, several people in the hedge fund business say there is no huge redemption wave hitting the industry and, by and large, big institutional investors have elected to remain heavily invested in hedge funds for 2013. New data released yesterday by TrimTabs and BarclayHedge showed hedge funds actually experienced $4.7 billion of inflows in November, reversing $10.3 billion of outflows in October. Industry outflows totaled a mere $8.2 billion from January to November.
While a few hedge funds, like those run by John Paulson, might get hit harder than others, all signs suggest that redemption activity has been relatively subdued despite many years of disappointing returns—with the last two years being particularly bad. The average hedge fund lost 5% in 2011.
“It’s a low interest rate environment and you still have pension funds searching for returns,” says Brad Balter, a Boston-based investment adviser who oversees approximately $1 billion and farms out money to hedge funds. “They don’t know where else to go.”
They say you get what you pay for, but the $2 trillion hedge fund industry, which on average charges 2% of assets under management and 20% of profits, has been able to keep its clients while being creamed by the market.
Ironically, it’s the size of the industry itself that may be hurting returns, with lots of fast money crowding out otherwise winning trades and large funds finding it hard to successfully invest all the money they have to work with. It’s possible that hedge fund returns on average may continue to disappoint until those who invest in them lose faith and shrink down the industry to a more manageable size.
