The near-$5 trillion hedge fund industry is having one of the toughest years in decades in convincing fee-conscious investors to fork out cash for new market players.
Despite a spirited pickup in inflows over the third quarter, the challenge is evident in the dwindling number of freshly launched funds and a drop in performance fees. According to the latest report by data provider Preqin, a total of 123 firms opened up shop this year through September — poised for the smallest annual tally of new entrants since at least 2000. Meanwhile even as management fees across the industry ticked up, performance compensation over the period slumped by the most since 2010.
It all reflects the uphill battle facing newbies in an era of ever-growing competition, thanks to the private-asset boom and the growth of cheap, index-tracking products. Big institutions, including public pensions, endowments and foundations, have been shifting money to private markets — and are mindful of the performance challenges facing smart-money managers, who typically deploy leverage in a bid to amp up returns.
While hedge funds — young and old — collectively returned 10% in the first nine months of the year, it pales in comparison to an MSCI index of global stocks that gained almost twice as much.
The smaller pool of new funds “is likely a byproduct of the drop in interest from investors, who are increasingly favoring experienced managers over less seasoned professionals,” Preqin researchers including Charles McGrath and Salik Ahmed wrote in the report. “Investors not happy with the current arrangements have been demanding that hedge fund managers introduce hurdle rates within their performance fee structures, so that they may only charge these fees if performance is above the threshold, a factor in the continued reduction in those fees.”
Charges linked to fund performance have fallen by 65 basis points to 17.4% this year, led by macro strategies that place bets on interest rates and currencies based on macroeconomic trends, Preqin data shows.
Thanks to what McGrath called “an outlier” of big inflows in the third quarter, the broad industry is on course to snap two years of redemptions. Still, demand is cooling, he said, citing recent investor surveys.
Total assets from hedge funds will increase 4% a year through 2029, the slowest rate of growth among all main alternative asset classes including private equities, venture capital and private debt, according to Preqin forecasts.
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