Alternative Investment Industry Outlook for Q3 and Beyond

Despite mixed performance in the first half of 2018 amongst the various hedge fund strategies and CTAs, institutional investors across the globe including pensions, endowments and foundations, funds of hedge funds, and insurance companies along with family offices and high-net-worth individuals are still interested in allocating to them given they have been more satisfied with their performance lately. In addition, LPs are also eyeing more illiquid investments such as private equity along with private debt.

When it comes to fees of their underlying managers, institutional investors still prefer lower hedge fund fees than the long-gone 2/20 industry standard. They also continue to integrate alternative risk premia (“ARP”) into their portfolios, which offer reduced fees.

On the new hedge fund launch side over the last quarter or so, the industry has seen a handful of billion dollar plus debuts with backing from their former employers.  Meanwhile, with respect to strategy, one of the most notable trends was a slowdown in the number of new cryptocurrency fund launches.

Investor Outlook

At EisnerAmper’s recent Alternative Investment Summit, a trio of institutional investors concurred they are interested in allocating to hedge funds. There was a particular preference to deploy assets to Women and Minority Business Enterprise (“WMBE”) funds.

Additionally, EisnerAmper has heard that environmental, social and governance (“ESG”) investing and co-investments continue to be popular.

Sean Holland, Principal, Comave Advisors, told Asset Management Intelligence that ESG investing is gaining greater momentum amongst larger, U.S. institutional investors while the demand for co-investments continues to increase.

“The U.S. traditionally lagged behind the U.K. and Europe with ESG given an American perception that ESG is corporate philanthropy, but it is changing,” he said. “ESG drivers include Millennials and Generation Z wanting to save the planet, but ESG is increasingly more systemic as CIOs and investment committees consider ESG more with their asset allocation.   Institutional investors also view ESG as enhancing their reputations while reducing portfolio risk by providing insurance to misactions – accidental or intentional.”

He added: “Demand for co-investments continues to climb as American public pensions strive to re-create the direct investing ethos championed by sophisticated Canadian public pensions and Asian Sovereign Wealth Funds,” he said. “Savvy GPs see co-investments as a tool to both extend their own investing dry powder while solidifying strategic relationships with LPs anxious for more co-investments.   LPs in turn hope to reduce fees.”

Meanwhile, in Europe, capital introductions professionals told EisnerAmperthat institutional investors are seeking to invest across globally diversified sets of strategies, in both new and existing managers. Some of the most favored strategies include special situations, global macro and managed futures.

Fees

Investors still demand that managers be more flexible with their fees, hence continue to offer allocators a founders’ class with 1/10 fees and if their assets under management increase, then they will offer 1/15 fees.

Jeff Parker, a partner in the Financial Services Group at EisnerAmper based in New York, confirmed the industry trend he has seen amongst the firm’s hedge fund clients and prospects.

“We are seeing lower fees, as well as founders’ classes,” he said. “We are also seeing variations on the traditional management fee/incentive allocation structure.”

Additionally, at a recent industry conference, a handful of institutional allocators said they have integrated ARP into their portfolios to reduce fees.

Launch Trends

The industry this year has seen a handful of several billion dollar launches, most notably multi-strategy ExodusPoint Capital Management, which launched with $8 billion, reportedly the biggest launch of all time; along with long/short equity manager D1 Capital, which debuted with $4 billion and macro fund Kirkoswald Capital Partners, which rolled out with $2 billion.

Eugene Tetlow, business development manager in EisnerAmper’s Financial Services Group based in San Francisco, confirmed the above mentioned trend that there has been a pick-up in managers successfully raising assets, either from their old firms or other traditional avenues.

“On the hedge fund side, new managers are spending more time ensuring that their fund is institutional ready before going to market,” he said.

Tetlow also said this past quarter experienced a decline in the number of cryptocurrency hedge fund launches, reversing course from the last year or so which saw a number of them come to market.

Conclusion

With nearly three-quarters of 2018 behind us and investors more satisfied overall with hedge fund performance, coupled with a few billion-dollar-plus launches, the industry is anticipated to receive substantial inflows in the last few months of 2018. And managers will definitely make it easier for investors to allocate by offering them more attractive fees and/or reduced fee products.

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