Hedge Funds Have Matured Into Accepted Asset Class

by Phillip Morton, Investors Offshore.com

02 June 2005

The growth of the hedge fund sector since the late 1980s shows that hedge funds have matured to become an accepted asset class, according to the 11th Annual Hennessee Hedge Fund Manager Survey.

The latest survey results indicate that the hedge fund industry grew 27% from $795 billion to over $1 trillion, largely on the back of positive manager performance (+10%) and new capital inflows (+17%). The number of hedge funds grew 15% from 7,000 to 8,050 funds.

Since 1987, hedge funds have generated an annualized return of 14.94% with approximately 40% less volatility than the S&P 500 DRI, which returned 11.88% over the same time period.

E. Lee Hennessee, Managing Principal of Hennessee Group LLC, observed that: "Hennessee Group has been monitoring hedge funds since 1987 and the growth we have experienced indicates that hedge funds have matured to an accepted asset class."

Charles Gradante, Managing Principal of Hennessee Group LLC added: "The growth in the hedge fund industry has largely become a 'zero sum game' on the long side since the capital is largely being reallocated from long only equity and bond managers to hedge funds."

"The real growth concern going forward is the potential difficulty maintaining historical short hedge ratios due to a supply shortage of stocks and bonds to borrow. Consequently, the use of derivatives to hedge will likely increase as the industry grows going forward; a situation which will change the industry's landscape."

Introduced in 1994, the Annual Hennessee Hedge Fund Manager Survey is the oldest and most comprehensive hedge fund industry survey. The 2005 survey respondents include 752 hedge funds from 155 management companies representing over $238 billion in assets. The Survey excluded CTAs who solely trade futures contracts.

Here are some of the survey's key findings:

• Individuals and family offices continue to represent the largest source of capital for hedge funds, comprising 44% of total industry assets.
• Fund of funds continue to be the fastest growing source of capital for hedge funds, with capital increasing 348% since January 2000 (from $63 billion to $282 billion).
• While fund of funds remain the fastest growing source of capital, pensions who invest directly in hedge funds have grown 145% since January 2000 (from $29 billion to $71 billion).
• 10% of the average hedge fund's capital base is comprised of employee investments.
• Hedge funds reported they have the capacity to grow assets by 139% on average from current levels.
• The average hedge fund has a long nominal exposure of 102%, using margin for the first time since 1999 when the average hedge fund exposure was 104%
• In 2004, the average hedge fund's gross exposure (longs plus shorts) was 148%, bringing to question the notion that hedge funds are a highly levered asset class.
• On average, hedge funds turned their portfolio over 3.35 times in 2004, versus only 2.99 times in 2003, indicating increased trading as managers searched for opportunities in a range bound market.
• 61% of hedge funds are registered with a regulatory agency (NASD, SEC, CFTC), up from 50% the previous year.
• Hedge fund fees have increased, with 53% of managers charging more than a 1% management fee, versus only 41% last year.
• The average hedge fund has 195 positions in its portfolio.

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