Liquidations hit poorly performing hedge fund sector

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Corporate activity in the investment trust hedge fund sector has stepped up after most vehicles failed to deliver their promises and have faced liquidation or restructuring.

Many of those hedge fund investment trusts were launched a couple of years ago as absolute return strategies, targeting consistent gains for investors. Most, however, have delivered subdued performance.

Cazenove Absolute Equity faces a vote at the end of this week on whether it should continue in its present form. Its board has also proposed changing the investment policy to focus on strategies that have outperformed regardless of market conditions, such as Cazenove UK Dynamic Absolute Return.

Performance of the investment trust lagged its peers in both 2009 and 2010. Having exceeded the average discount of 5% over the financial year to October 31, the investment trust faces a continuation vote. Should the vote fail, the board will propose a voluntary liquidation.

Shareholders in Dexion Equity Alternative have cast their vote on its restructuring proposal. Last week, they agreed to change the trust’s investment policy from a global fund of hedge funds to a fund of American equity long/short hedge funds.

Similarly to the Cazenove Absolute Equity fund, its widening discount had triggered mechanisms to control it, and, as a consequence, a continuation vote.

Meanwhile, the board of the BlackRock Absolute Return Strategies fund is recommending a wind-up after talks with shareholders. Although performance had been relatively strong, its discount has remained stubbornly high while it has failed to grow its share price over the past three years. (News analysis continues below)

Numis Securities, which publishes regular updates on the sector, says the board’s decision comes as no surprise.

“Numerous listed funds of hedge funds have wound up over the past few years and we believe that further consolidation is needed,” the latest edition says. “In addition, listed funds are facing increased competition from Ucits funds, especially in long/short equity strategies.”

Numis says many investors are favouring open-ended funds regulated under the European Ucits III directive. Investors are able to move money about more frequently and there is no risk from discounts.

“Many have lost money,” says Nigel Sidebottom, the deputy chief investment officer at Premier Asset Management and the manager of the Premier Enterprise fund. “The outcome for investors has been disappointing.”

Over the first six months of this year alone, the number of liquidations in the funds of hedge funds sector has already exceeded that at the peak of the financial crisis in 2009.


External funds of funds, which invest in hedge funds run by other firms, are likely to see further rationalisation as investors are becoming more concerned with the fund of fund model in general.

Mark James, the managing director for the investment companies team in the Royal Bank of Scotland’s global banking and markets division, says there is little doubt that the external fund of funds peer group is out of favour.

“Disappointing net asset value returns from many listed external funds of funds over 2010 have served to highlight the inflexibility of some portfolios,” James wrote in Alternatively, a research publication from RBS, earlier this year.

“With a combination of underlying portfolio liquidity limitations and challenges in manager sourcing, shifts in strategy can be frustratingly slow to implement for the fund of funds manager, potentially resulting in fund of funds portfolios missing out on key market opportunities and trends.”

James says investors are critical of the double layer of fees, as well as the lack of transparency and the quality of due diligence. Such concerns have arisen since Barnard Madoff’s hedge fund fraud came to light in 2008.


Four funds of hedge funds - Castle Asia Alternative, CMA Global Hedge, Dexion Commodities and Tapestry - have already been liquidated since the start of the year.

Internal funds of funds, which invest in a range of hedge funds managed in-house by one hedge fund group, have held up well. This sub-sector hosts the massive BlueCrest AllBlue, which has a net asset value of £874.8m in its sterling share class alone.

BlueCrest AllBlue returned 69.5% over the past five years, according to Trustnet. It is ­trading at a premium of 3.3% to the value of its assets, whereas most others are trading at
a discount.

Much less has changed among direct hedge funds, those vehicles that offer exposure to a single hedge fund group and, typically, a single hedge fund strategy.

“The hedge fund concept is still something that investors are interested in but they have become more selective,” Sidebottom says.

The surge in corporate activity in the investment trust hedge fund sector suggests that investors have not completely abandoned the concept of fund of hedge funds or direct hedge funds investment trusts. Since the financial crisis, however, they have become cautious about where they invest.

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