Hedge funds have had a rough time of it lately with redemptions hitting the headlines and decent returns proving elusive. Yet for many the greatest burden faced by alternative fund managers is not the capacity to expand the business. Keeping up with regulation has become equal to the challenge that asset growth poses for hedge funds, according to the research report ‘Trends and Challenges in the Global Hedge Fund Industry’ published by analyst house Aranca and sponsored by FIS. Globally, ‘Keeping pace with regulatory change’ and ‘Growing assets under management (AUM)’ were named by the most respondents (49%) as a top three concern, in the study which spoke to over 258 professionals globally. When looked at by regions, in Europe and Asia Pacific keeping on top of the pace of regulation was the number one challenge (cited by 61% and 47%). In the US, fee pressures were the highest concern (49%) followed by growing AUM (48%) and keeping pace with regulatory change.
Many hedge funds launched on the basis of a good trading idea or team, with a lighter operational burden making them nimbler than they would have been if they were running the strategy on a bank’s prop desk. However that is changing. The responsibilities that fund manager’s face these days are considerable.
The pressure is rising from investors too. In the study, investors thought that fee pressures (76%), staying ahead of the competition (48%) and finding new opportunities (46%) were the industry’s top three problems, a result supported by the level of investor withdrawal from the sector.
Yet operational and technology issues were not a major concern for the fund managers. Most are aware that they have the potential to automate and scale up using technology in order to overcome the challenges they face, particularly in their need to collate and report data.
The expectation is that there is a tough market ahead. Fund managers are fully aware that the next year may not be about growth as much as security; some alternative investment firms are now looking more like boutique asset managers running low risk strategies to weather the storm. Flexibility in operations and the capacity to manage new risks will be a deciding factor in which manager’s cope and succeed in this environment.
Wedded to the burden of keeping pace with the changing rules – particularly in Europe under the Alternative Investment Fund Management Directive (AIFMD) and with new trading and clearing rules inbound – there will be a few funds that cannot keep afloat.
Hedge funds provide a valuable source of liquidity and market activity. By taking positions against broader market movements they provide the other side of the trade for traditional asset managers and dealers. Having flexibility around investment strategy allows alternative investment firms to time buying and selling activity more opportunistically. Capital adequacy requirements for banks have increased their costs when holding risk for any length of time, reducing their ability to make markets. Therefore the impact on the wider market of declining hedge funds is unlikely to be positive.
That said, 2016 has seen some signs of a levelling, or possibly the start of a recovery in performance for certain strategies. While just over half of fund managers whose performance is tracked by Eurekahedge were ‘in the red’ in April 2016 only long/short equity hedge funds posted negative year-to-date returns (-1.35%). By contrast strategic mandates were up in April, with relative value hedge funds (1.96%) in the lead and event driven (1.34%) and macro hedge funds (1.14%) just behind. The Brexit and US election are looming over the second half of the year, funds are braced for a stormy time. However volatility brings opportunity and with funds seeing small gains – up 0.88% in April and 0.39% from the start of the year – this could put wind beneath the wings of canny managers.
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