HFs Emerge Victorious With $28 Billion in Profit

(March 2, 2011) — The economic downturn has taken a toll on all industries, but hedge funds have emerged strong.

Data analyzed by hedge fund investor LCH Investments, an investor in hedge funds managed by the Edmond de Rothschild group, has shown that the world’s top 10 hedge funds netted $28 billion for their clients in the second half of last year, according to the Financial Times.

“This is fantastic news,” said Ross Ellis, vice president of marketing and client experience at Pennsylvania-based mutual fund manager and administrator SEI.”The fact that these top performing hedge funds made so much for their investors may imply that getting two and twenty is irrelevant — if they made $28 billion that might be justification enough,” he said, referring to the management and performance fees of hedge fund managers. He added that the success of hedge funds goes to show that big funds like the California Public Employees’ Retirement System (CalPERS) — spurred by the downturn in 2008 — are increasingly pressuring fund managers to prove they can add value, rather than just returning market returns (beta).  “A bad performing fund is a bad investment regardless of the fee structure,” he continued.

“Post 2008 and post Bernie Madoff, investors have become more empowered. They are much more in the driver’s seat,” said Ellis. “Managers are finding it a lot harder to get investors, so through supply and demand they’re willing to adjust terms, give more liquidity, change their fee structure, and give more transparency.” Investors aren’t as beholden to the hedge fund managers now as they used to be, he explained.

LCH Investments showed that the billions of dollars in profits given to the customers of the 10 leading hedge funds is more than the combined net profits of Goldman Sachs, JPMorgan, Citigroup, Morgan Stanley, Barclays and HSBC. The firm noted that the increase in profits was fueled by the stock market rally in the second half of 2010. While George Soros, often crowned as “Hedge Fund King”, made $35 billion for his clients since setting up the Quantum Fund in 1973, John Paulson’s Paulson & Co, made $5.8 billion in the second half of 2010.

The bounce back from hedge funds puts a spotlight on the two and 20 fee structure employed by hedge funds, which typically earn a 20% cut of profits, along with a fee of about 2% of funds under management. Last year, research house Lipper began encouraging schemes to demand greater explanation and justification on hedge fund fees. The firm demanded that funds follow the leads of CalPERS and Utah Retirement Systems, which push hedge fund managers to explain their fee structures. “CalPERS announced in March 2009 its intent to work with hedge fund managers to restructure fees and relationships,” CalPERS spokesman Davis Wayne told aiCIO last year. “We’ve cut about $56 million in fees with hedge fund managers this year. The bulk of fees cut this year — about $99 million — have been with hedge funds,” he said during an interview in August 2010.

Furthermore, Hedge Fund Research revealed that the 2% management and 20% performance fees charged by hedge funds globally have been a steady source of debate since the funds posted a record 19% net loss in 2008, after having made fees on approximately 10% gains in 2007. “Hedge funds commonly charge a management and incentive fee, but in contrast to the perception that these levels are standard across the industry at 2% and 20%, respectively, average management fees for single strategy funds were actually 1.58% as of the end of the first quarter of 2010; while average incentive fees were 19.12%,” Ken Heinz, president of Chicago-based Hedge Fund Research, Inc., told aiCIO. “In some cases, newer funds are charging lower levels, while in others established managers are changing their fee structures.”