Shakeout looms for hedge funds as returns are eaten by excessive fees

FOR decades, the standard marketing push for hedge funds has been that the funds, by their canny ability to read markets and hedge exposures, should help portfolios preserve capital in bear markets, and outperform when markets are strong. Depending on the strategy, that has mostly been the case even through financial crises.

Lately however, the dissenting voices have been louder and disillusionment deeper, to the point that some large institutions have actually begun to exit from hedge funds. The California Public Employees' Retirement System (Calpers) announced its exit from 24 hedge funds, or a portfolio of US$4 billion in 2014. More recently, the New York City's pension for civil employees voted this year to exit its hedge fund portfolio of US$1.5 billion. A number of Dutch pension funds have also announced their intention to quit hedge funds.

Investors' beef has centred on performance, or the lack of it; and fees, traditionally structured in the form of 2 plus 20 - that is, a 2 per cent annual fee plus 20 per cent performance fee. Based on the Barclays Hedge Fund Index, for instance, the asset class generated a return of just 0.4 per cent in 2015, against 1.4 per cent by the S&P 500. Performance year-to-date is even more disheartening. The HFRX Global Hedge Fund Index generated a return of 0.19 per cent up to mid-July, compared to 5.7 per cent by the S&P 500. Net asset flows in 2015 were positive; total assets in hedge funds rose by US$51 billion to US$2.97 trillion in 2015. But the outlook is far from sanguine and the questions on performance and fees will not be easily shrugged off.