Newer Hedge Funds out-performed older in 2008.

Newer Hedge Funds continued to out-perform their older more established brethren in 2008.

In a year when Equities generated returns of -40% and even the average Prudentially Managed Balanced fund and many large endowments lost around -25%, Emerging hedge fund managers* continued to deliver relative outperformance of between +180 to +400 basis points (-16% to -18.2%) to average Hedge Fund returns of around -20%; depending on which benchmark you use to measure the performance of the average established Fund.

Infiniti’s own emerging manager products did even better losing only around -12% in 2008.

Whilst this was not the absolute return most investors hope for from alternative investments it still represents a significantly better preservation of value than can be had from Equities which have continued their fall into 2009 while Hedge Funds have in general been flattish so far.

The reasons for the relative out-performance of newer managers remain simply that they are leaner and meaner and hungry for success. Many of the larger more established ‘brand name’ hedge funds did very poorly in 2008 with some of the largest and oldest losing more than 50%.

A significant part of this is due to the reduced flexibility of larger managers to change their portfolios particularly in times of crisis. There are numerous academic studies that indicate that once a portfolio gets much larger than $2bn it starts to have a significant impact on the size and pricing of trades in all but the most liquid and deepest of markets. This inevitably translates into eventual mediocre performance.

Moreover, larger well established Hedge Funds are less sensitive to client redemptions and may not have recognized the crisis proportions of the panic selling by investors as early as smaller firms who are more sensitive to such moves by virtue of their smaller size.

Larger Funds are also less able to scale their operations and lay off staff or close offices as quickly as their more nimble juniors. This is a very significant issue because of the business model where the bulk of hedge fund fees are earned only above a high water mark. When coupled with client redemptions of up to 50% for under-performing funds, it is easy to see how this could impact larger firms more materially.

Smaller firms, to be sure, have more business risk and with reduced AUM this may now be a larger risk. However, their ability to reduce costs should more than compensate for this although it is something Infiniti, as a Fund of Funds manager, watches closely.

It is somewhat paradoxical therefore that investors continue to fall for the allure of size and the false comfort of age. After all, who has ever really experienced better service from a larger organisation ?

Perhaps somewhere on the other side of the current storm, Boutique’s will finally have their day and, in the process, help reduce systemic risk as well.

*Defined as managers that are less than 36 months old and have AUM of less than $300m at inception.

ENDS

Infiniti Capital is a Fund of Hedge Funds manager that pioneered the practice of charging a performance fee only. Originating from a Swiss based family office, Infiniti recently underwent a management buyout and is now entirely owned by its senior management and staff. The company runs a number of FoFs including two specialist mandate Emerging Manager Funds on behalf of primarily institutional clients in Japan and Asia.

Please note that although we specialize in Emerging Managers we are not seed investors and will only look at a fund after it has at least $50m in AUM and at least 6 months of actual track record. We also conduct very extensive onsite due diligence with all of the funds we are invested in before we invest. These rigorous due diligence processes have helped us avoid funds like Amaranth and Madoff. Currently we are invested in just under 100 hedge funds across our product range. Infiniti’s own operations are set up so that not one cent of client money ever passes through an Infiniti bank account and all transactions go through independent third party administrators. We also typically partner with Investment Banks who serve as risk monitor and note provider to the funds. Due to the current preference for more liquid and transparent investments Infiniti is currently working on the launch of a range of hybrid ETF & Managed Account based funds.

© Scoop Media