Trends in the hedge fund space can be difficult to quantify, but one thing is certain, both institutional and retail investors are allocating more money to the asset class each year. Lisa Corvese, managing director of global business strategy for PerTrac, which provides analytics, reporting and communications software to many of the world’s largest institutional investors and hedge funds, has a front row seat at this phenomenon. In a recent interview with FINalternatives, Corvese talks about the ‘business’ of hedge funds, the growth opportunities for Asian-focused asset managers, the unfair comparison of UCITS funds to non-UCITS vehicles, and more.
What trends are you seeing in the hedge fund industry?
One of the most compelling trends in the hedge fund industry today is recognition that the ‘business’ of hedge funds requires equal attention to process and operational best practices as well as the portfolio and its performance. This means spending more time and money on infrastructure, process and procedures which increases the overall cost structure of running the business. As more dollars are allocated by institutional investors to alternatives, institutional investors are conducting deeper due diligence and they look for hedge funds that they invest in to have consistent, scalable and auditable processes, especially for risk analysis, valuation, client reporting and document management. This also has some further implications, as this adherence to best operational practices is demanded not only of the large funds but of the small funds as well. Therefore, start up costs for new hedge funds have significantly increased. The days of just performance based decisions on investment allocations have not only come to an end, the new regulatory framework ensures that they will never return.
I saw a recent study of Asian funds that suggested funds that launch big (with $75 million AUM or more) tend to underperform in subsequent years. Is that a phenomenon you've seen?
The subject of ‘what is the right number to launch’ is always debated. Asian funds tend to be smaller in general right now, but I think as the global economics continue to shift from West to East, there will be more opportunities for growth investment in Asia and the size of Asian hedge fund launches will shift accordingly and rather quickly. Today’s Asian investing environment is only a taste of what is ultimately to occur there.
How do UCITS funds perform compared to non-UCITS funds?
This is not a fair comparison as the framework of a UCITS fund is simply more costly than a non-UCITS fund. UCITS funds were first developed with the retail investor in mind and have been retrofitted as a fund wrapper to fit the alternative space. UCITS funds are chosen for a few reasons but most importantly for its liquidity.
What effect do you think the increasing interest of pension funds and large institutions in hedge funds will have on the industry?
The pensions and large institutions have full intention of allocating more in the coming years to alternatives. They have been well schooled by their consultants and now conduct wider and deeper due diligence on their hedge fund candidates focused on the hedge funds’ post trade process, valuation policy and governance practices, risk management, compliance and reporting. They not only wish to understand their selected hedge fund’s risk/return analytics and reporting but require their own ability to monitor investments directly. The effect this will have on the industry is increased transparency, verification and the sharing of more reports between all constituents at the fund level of investing.
One of the criticisms leveled at hedge funds in the wake of the financial crisis is that the returns they offered were not as uncorrelated as billed. Do you think hedge funds generally do offer uncorrelated returns?
Hedge funds employ varying strategies to achieve their returns. Most risk management software applications rely on the normal distribution assumption for portfolio returns. The normal distribution only incorporates two parameters, mean and standard deviation. In the current market environment, the more listed or exchange based the securities are in the portfolio the more correlated they have proven to be. The more correlated the assets the more unlikely the returns will outperform the market. Therefore, many hedge funds have launched tail risk funds which focus on “fat-tailed” distributions that account for the asymmetry and tail behavior of financial assets and their risk drivers.