The evolving dynamics of the hedge fund industry
2015 Global Hedge Fund and
2015 stands in sharp contrast to the prior decade. Even the definition of a “hedge fund” is being challenged as segments in the financial industry blur and converge.
Brand has never been more important as new money has consistently flowed to the largest, well-knows managers. That said, start-up hedge funds are experiencing robust investor demand as well.
The investor base has changed dramatically. A decade ago, investors were two-thirds high net worth and one-third institutional. Today, the reverse is true.
The selling and distribution of hedge funds has changed as well, a shift that digital technology and social media will accelerate. Finally, the importance of the client experience has never been greater, a focus which is clearly in the crosshairs of global regulators.
Here are five key finding from this year’s survey. Below that, we offer closing thoughts on how the hedge fund industry should evolve as the business environment changes.
1. Most managers still focused on growth, but also on talent
Managers citing asset growth as their top priority dropped from 67% in 2013 to 57% this year. The largest managers, with a large clientele and established brand, now focus on cross-selling products and becoming a one-stop shop for investor needs.
To execute this plan, the largest managers are hiring top talent to focus on offering new strategies through traditional hedge fund products.
2. Managers must adapt to rising fees and an evolving dynamic with prime brokers
Regulations put into place since the financial crisis continue to have an impact. Increased capitalization requirements, constraints on leverage and a focus on liquidity risk have impacted banks’ capacity and economics, resulting in an evolving shift in how prime brokers view hedge fund relationships.
51% of managers report either higher fees from their prime brokers or an expectation of higher fees in the future. The top strategies that have seen an increase in fees include distressed securities (41%), fixed income/credit (32%) and macro (24%).
3. Technology investments becoming more essential to support business functions
70% of managers expect to make major tech investments in the next two years. Managers anticipate spending 12.4% of their budget on technology in the next three to five years.
Investment in data management and reporting technology is particularly crucial. 26% of larger firms, 45% of mid-sized firms and 48% of smaller firms said their technology environment needs improvement or further investment as it relates to data and reporting.
4. Outsourcing key to managers’ operating model, but there is a gap with investor expectations
Across all asset classes, 60% of respondents currently outsource or are considering outsourcing certain middle-office functions. Only 27% of smaller managers, however, report they are currently outsourcing or considering it.
Investors generally report more comfort with outsourcing than hedge funds themselves, particularly in OTC services (91%), pricing/valuation (89%) and confirmations/affirmations and settlement (87%). Investors are least receptive to outsourcing hedging (60%) and cash management (64%).
Cost savings is the key driver for outsourcing, but investor demand and the ability to focus more on core activities also play a role.
5. Hedge funds looking to make transformational changes
Larger managers realize they must view themselves as alternative asset managers and offer multiple product types and strategies to meet investor needs. 54% of this group currently consider themselves multi-product asset managers, and 63% feel they will be in three to five years.
Mid-size and smaller managers expect a similar shift, but to a lesser extent than their larger counterparts.
How can hedge funds evolve to meet these challenges?
- Adjust to operating with lower margin expectations. Learn from other industries that have seen a rebirth.
- Invest in technology and data management, and have the patience needed to see return on that investment.
- Clearly define your value proposition.
- Refine client segmentation strategies and enhance your brand, taking an omni-channel approach.
- Simplify your business to focus on core products
- Focus on outcomes, not only returns. Commit to overt alignment of interests with investors.