Mutual Funds Close To Emulating Hedge Funds

by Carla Johnson, Tax-News.com, London

16 April 2002

According to a Hennessee Group survey, investors poured $144 billion into hedge funds last year, raising total hedge fund assets 38% to $563 billion; and at least some of the growth is due to the increasingly lower barriers to entry. Many funds billing themselves as less risky and more transparent than traditional hedge funds are opening for business, some with minimum investments as low as $50,000.

"Hedge funds are going retail," said Charles Gradante, chairman of the Hennessee Group, an adviser to hedge fund investors. "In a few years, you'll see them listed beside mutual funds in the stock pages."

There are nearly 6,000 hedge funds worldwide, up from 880 a decade ago. As more investors turn to hedge funds, so do money managers in pursuit of more lucrative pay. Hedge fund managers often earn at least 20% of portfolio gains above a specified minimum, perhaps 8%. In contrast, most mutual fund managers do not receive performance fees and charge an average 0.5% to 1% in annual management fees.

Hedge funds have been among the few investments to rise in value recently: according to Van Hedge Fund Advisors, US hedge funds delivered an average gain of 5.6% in 2001, versus declines of 11.9% for the Standard & Poor's 500-stock index and 5.6% for the average equity mutual fund. For the first three months this year, the average American hedge fund rose 1.4%, while the average equity mutual fund gained 0.2%, according to Morningstar, Inc., and the S.& P. 500 fell 0.1%.

In order to compete, companies like UBS PaineWebber and Pioneer are opening their own hedge funds. Mutual funds that mimic some of the characteristics of hedge funds, without most of the restrictions, are also growing in popularity. Often called long-short mutual funds, the funds charge 1.2% to 2.7% in fees, slightly higher than the average mutual fund. Long-short mutual funds can use hedging strategies like short-selling and leverage, though the portion of assets that can be used in those ways is limited. Unlike hedge funds, the long-short funds have no minimum wealth requirements and can be traded daily. Investment minimums range from $500 to $10,000.

But hedge funds are not for everyone. "When you invest in a hedge fund, you are opting out of a wonderful set of rules that protect you when you invest in mutual funds," said Mercer Bullard, a former assistant chief counsel at the Securities and Exchange Commission and now chief executive of Fund Democracy, a fund shareholder advocacy group.

Investors in a mutual fund can redeem shares and check fund performance daily. Many hedge funds, however, lock up an investor's initial investment for a year. Redemptions are limited to monthly, quarterly or annual intervals; there are no standard metrics for measuring performance, and there are few requirements to report performance or holdings.

Recommended