Report: Hedge Funds Rebound, Doubt Value of New Rules

Nov 9 2010 | 7:48am ET

The global hedge fund industry, on the rebound from the financial crisis, is prepared to respond to investor demands for greater transparency but remains skeptical that new government regulations will be overly beneficial, according to a new Ernst & Young report.

The findings in the report, Restoring the Balance, were compiled by international research-based consulting firm Greenwich Associates for Ernst & Young. Greenwich polled 104 hedge fund managers who manage some US$585 billion in assets, and, for the first time, 53 institutional investors representing US$260 billion in assets, more than one-quarter of which are invested in hedge funds.

Investors were polled about structures, fees and liquidity terms and over half reported having greater negotiating power, post-financial crisis, while over 40% said they’d pressured their hedge fund managers to lower management and incentive fees. One in three institutional investors said they require greater liquidity than they had before September 2008, and three in 10 said the maximum lock-up and the maximum gate they will accept is lower than it was before the crisis hit.

The report says nearly 45% of hedge funds have made changes to fees, liquidity or structure to attract new capital. More hedge funds in the US and Europe – 51% and 43% respectively – made changes than did those in Asia (24%).

On the questions of compensation structures and transparency, nearly 95% of hedge fund managers believe their compensation model effectively aligns risk-taking and performance of individual managers and traders with investors' interests. But only half of investors agree, and more than 20% say that incentives are not well aligned at all.

Nearly 75% of hedge funds told pollsters their investors receive all the information they would like.

Investors ranked the three most important pieces of information they need from managers as performance information (38%), risk information (25%) and transparency of holdings (25%). To assess risk, investors said they consider leverage (66%), largest holdings (55%) and asset classes (53%). Managers, on the other hand, felt the most important risk information included asset classes (81%), industry sector (75%) and geography (75%).

Both investors and managers believe that there will be significant regulatory intrusions in the hedge fund market, but the majority of both groups do not believe these will be beneficial. Nearly half of hedge funds feel new regulations stemming from broader financial reform will not be beneficial to investors over the long-term; just 16% believe they will be. Investors agree, with fewer than half saying they expect the impending wave of regulation to benefit them; more than 20% of investors feel that regulation will not be beneficial.


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