Pension fund survey

Pension funds keen to understand hedge fund replication and alternative beta

Back in June 2006, IRC commissioned a survey of European pension schemes in order to understand investor attitudes towards hedge fund investments.  The 260 responses yielded some fascinating insights:

• 62% of pension funds currently investing in hedge funds expressed a desire to understand the “alternative beta” factors which drive hedge fund returns. Only 12% were disinterested.
• 68% of pension fund investors would be interested in learning about the new generation of hedge fund products which replicate hedge fund returns synthetically, without charging hedge fund fees. Only 15% would not.
• 50% of pension funds currently investing in hedge funds agreed with the statement, “I believe that most hedge fund return comes from manager skill (alpha) and not from common risk factors (alternative beta).“ This view is at odds with academic research, yet only 30% of investors disagreed!

A key question that we were interested in, was to gauge what impact a better understanding of alternative beta would have on the hedge fund industry. Hedge Funds have been sold on the basis of manager skill, as alpha-generators. As investors come to understand alternative beta, the mystique will be stripped from hedge fund performance. Is this a good or a bad thing for the industry?

Amongst those pension funds currently not investing, 50% said they would be more inclined to invest if they understood better how hedge funds generate their returns. This was the highest ranking obstacle to pension funds investing in hedge funds – a bigger issue than risk, and a bigger issue than acceptability to scheme members. Many pension funds see “alpha” as a zero-sum game, but they haven’t yet grasped the fact that hedge funds returns don’t rely purely on alpha – there is also an “alternative beta” risk premium that hedge funds are consistently harvesting. These findings suggest that a greater understanding of hedge fund returns may actually result in higher allocations to hedge funds.

In response to all of these findings, IRC launched the world’s first “Hedge Fund Replication and Alternative Beta” event, which took place in London in February 2007, bringing together the leading academics, investors, practitioners and consultants from around the world to discuss hedge fund returns and synthetic hedge funds.