Looking Ahead to 2012: The Hedge Fund Industry Speaks (Part II)

Jan 5 2012 | 3:40pm ET

Nobody can say for sure what lies ahead, but FINalternatives Senior Reporter Mary Campbell asked some industry experts to give us their best guess as to what 2012 will bring for markets generally—and hedge funds in particular. Here’s what they had to say (Part II of III).

Todd GroomeTodd GroomeTodd Groome
Chairman, Alternative Investment Managers Association 

The growth of institutional investor participation in the hedge fund industry, seeking lower volatility and higher quality returns across economic cycles, will continue and gain pace, as ongoing political and economic uncertainties likely lead to further market volatility in 2012. Hopefully, given the progress made so far on regulatory reforms, global regulators will redouble their efforts in 2012 to achieve greater international consistency of regulation and reporting requirements of hedge fund managers, seeking to align regulatory benefits with industry costs. The institutionalization of the hedge fund industry will no doubt continue, and in the long run is likely to more greatly influence and change the industry than current regulatory reforms, and the convergence of traditional and alternative investment styles, techniques and firms, will become a more significant trend and talking point in 2012.  

Gerry GualtieriGerry GualtieriGerry Gualtieri
CEO, Tradar

In 2011, the major focus for funds was risk and compliance. Companies were stepping up their risk analytics and compliance modules and starting to move from overnight to intra-day reporting. Now that the global financial climate has changed and money is harder to find, the focus has moved towards measuring performance and gaining better operational control through reporting. Firms are working to implement flexible reporting tools in order to be able to provide increased transparency to investors for both fund performance and compliance.

In 2012, we will see continued uptake in trading connectivity technologies. Hedge funds in Europe will look to make greater use of broker-sponsored direct market access and algos, whilst increasing operational control through the use of transaction confirmation systems.  Many prime brokers have recruited or are recruiting experienced technology specialists who can advise their clients on new technologies and what is available in the market.

David GuinDavid GuinDavid Guin
Partner, Withers Bergman

For me, one of the most dramatic developments of 2011 is the expansion of the U.S. regulatory net. In response to high profile cases of tax and financial fraud, we have seen multiple U.S. agencies such as the Internal Revenue Service, the Securities and Exchange Commission and the Commodity Futures Trading Commission expand their reach both internationally and into the financial dealings of individuals and families. Many of the proposed rules under FATCA (the Foreign Account Tax Compliance Act) have the essential effect of deputizing foreign financial institutions to perform U.S. tax compliance monitoring. The SEC and CFTC, giving broad interpretation to the Dodd-Frank Act’s mandate to monitor systemic risk, have both increased the number of foreign financial institutions subject to U.S. regulation and have imposed reporting obligations on a broad range of activity by individuals and families. The potential regulation of family offices, the treatment of personal investment structures as “institutional investment managers” subject to reporting on Form 13F and the application of “large trader” reporting obligations (by both the SEC and the CFTC) to both domestic and foreign individuals and families are just a few examples. The trend to watch is whether these developments will continue to drive foreign institutions and individuals away from U.S. customers and markets.

Peter HerrlinPeter HerrlinPeter Herrlin
Prime Brokerage Sales, SEB Enskilda
We are cautiously optimistic ahead of 2012. Whilst political and regulatory uncertainty will continue to challenge the hedge fund universe, we believe there will also be a number of opportunities. The regulatory changes afoot will likely spur on the drive towards regulated on-shore products and we believe that Europe, and Scandinavia in particular, will continue to be a very attractive target for asset raising. We see opportunities as well as investor demand for low-risk, low-volatility macro strategies as well as in the equity market neutral space. Issues concerning future bank capital raising may also present opportunities within the event space as well as merger arbitrage strategies. Bank counterparty risk is another leading factor coming into the New Year and we believe it is increasingly important for hedge funds to seek stable, highly rated financing and structuring counterparts.

Rory HillsRory HillsRory Hills
Partner, Hilltop Fund Management

I have thought for some time now that the Western world is bust. Believing there is some political solution to what is going on is fantasy. It would take an extremely talented politician with a 15-year term of office to tackle what is going on (and then only if they neither cared about opinion polls or assassination attempts!) The West has—at every level—borrowed too much over a long period of time and now it needs paying back. Either the borrower has to scrimp and save and pay it back (without spending on anything new in the meantime, which is very bad news) or they default and the lender is stuffed. The third alternative is for governments to bail everyone out by printing money but this has obvious problems too. 

What does this mean for markets and investment strategies? I think risk-on, risk-off is set to run and run. This is bad for medium- and long-term CTAs and almost impossible for variable bias strategies including global macro and equity long/short. It remains tough for credit too, except those with short durations and paying cashflows. Strangely, it also seems to be catching a lot of volatility managers out too—the wrong type of vol perhaps! Who does well in these environments? People running very alpha-generative strategies: some equity long/short non-directional, good vol managers should and selective shorter term systematic people amongst mainstream hedge fund strategies, but the real winners will be those who can exploit the lack of banking activity…Of course, if risk on/risk off moves to pure risk-off then that will clearly make it easier for some. Bottom line: this is the toughest environment I have ever known in my 25 years in the industry.

Alexander “Sandy” KemperAlexander “Sandy” KemperAlexander “Sandy” Kemper
Chairman, The Collectors Fund

As the traditional investment markets struggle to provide even tepid investment opportunities during this difficult economic period globally, we anticipate an expansion of the trend toward alternative investments, and particularly in vehicles that have been described at times as “passion investments,” with art funds among those gaining a great deal of momentum. 

Diversification will become even more critical to overall returns in 2012 than in the past, and art investment is one of the best ways to improve diversity within a portfolio. Art has been shown to be highly uncorrelated to most other asset classes other than gold, but without the volatility of gold. Yet it remains a relatively opaque market by comparison to other asset classes; on the one hand, this opens up the potential for higher returns for those with experience and knowledge in that marketplace, but it can be risky for those without the benefit of that expertise. That is why art funds, like The Collectors Fund and others, have gained significant attention in recent months, and are well-positioned for strong growth in 2012. We blend a knowledge of, and passion for, art collecting with a sound, disciplined investment strategy to improve the overall performance of a portfolio.

Enrique LibermanEnrique LibermanEnrique Liberman
President & Chairman of the Board, The Art Fund Association

As traditional investments in stocks, bonds and real estate continue to produce lackluster returns, alternative investments in tangible property will continue to outperform. We anticipate continued growth in and dramatic investment returns from "passion" or "emotional asset" funds that focus their investments on items of luxury and rarity such as fine art, vintage wines and rare-colored fancy diamonds.

Alistair MacDonaldAlistair MacDonaldAlistair MacDonald
Partner, Midmar Capital

2012 promises to offer much of the same as 2011. Volatility seems set to remain a feature with Europe continuing to struggle to reach a solution on the debt crisis which is palatable to all. Added in to this mix we have elections in France, Germany and the U.S. as well as in China. Elections always come with promises of change but it is the delivery that remains elusive. What is clear, however, is that much of the corporate sector is in many ways ahead of this, with balance sheets improved and cost issues being addressed. We continue to see world class businesses, that will weather the current storm well, being valued at distressed levels presenting us with opportunities, while those with less robust models are set to be challenged further.

Joseph MarrenJoseph MarrenJoseph Marren
President & CEO, KStone Partners

KStone’s investment committee believes that the best investment opportunities in 2012 lie with a diversified portfolio of smaller hedge funds (under $1B in AUM) with institutional quality risk management that invest primarily in arbitrage and relative value strategies (e.g. mortgages or asset-backed securities) and which provide investors with ample liquidity. Funds that are consistently hedged will provide investors with a reasonable rate of return relative to expected volatile equity and fixed income markets.

Bob OlmanBob OlmanBob Olman
Managing Partner, AlphaSearch

Institutions will continue to pour their capital into hedge funds next year, with the largest, brand- name funds being the primary beneficiaries. The exception will be funds with 2011 performance that beat peers, especially the outliers and liquid investments, which will attract capital regardless of size and infrastructure. Pension funds and endowments will continue to demand that their hedge funds offer more transparency and a solid business infrastructure with strong back-office and middle-office functions. Hedge fund professionals in marketing and front office will see more restrictive covenants on their employment, including deferred compensation and non-compete agreements. Bonuses will continue to be disappointing to many, and it will remain a buyer’s market for hedge fund talent as banks dismantle their prop desks and smaller funds shut down in a difficult trading environment. The exceptionally talented investment professionals, whose trade ideas and positions have performed well in 2011, the ‘rock stars,’ will continue to defy market trends, demanding and receiving outsized compensation and autonomy levels.

Looking Ahead: The Hedge Fund Industry Speaks

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