Hedge funds need closer scrutiny

Institutional investors need to take a closer look at their hedge fund exposure in circumstances where questions are being asked about the sustainability of returns, according to a recent report published by Mercer.

The report, looking at trends in the hedge funds industry, points out that there are currently more than 9,000 funds collectively investing more than US$1.1 trillion, and that around 100 and 150 new managers enter the market each month.

The report said that where hedge funds are concerned, investors are willing to compromise on fees, transparency and liquidity in return for the promise of desirable absolute returns.

“However, the recent rapid increase in the supply of hedge funds has raised a number of serious questions on the sustainability of returns,” it said.

The Mercer report concludes on the note that an allocation to any hedge fund strategy needs to be carefully examined from an overall portfolio context, available market liquidity, especially on the short side, and the fees and capacity of the chosen managers.

“We believe that for fund of hedge funds, the lower return dispersions are likely to persist,” it said. “When assessing fund of hedge funds, investors will need to examine the breadth of strategies employed, whether strong operational and investment due diligence teams exist and whether risk management is undertaken on a transparent basis.”