Funds of hedge funds may actually be pretty good at picking
managers just not good enough to overcome the additional
fees they charge.
Researchers from Purdue Universitys Krannert School of
Management and Loyola Marymount University found that funds of
funds display significant manager selection
abilities, with their choices outperforming the hedge fund
industry, according to their study published last month.
Purdues Chao Gao and Chengdong Yin and Loyolas
Tim Haight examined holdings data from funds of funds
registered with the U.S. Securities and Exchange Commission
between 2004 and 2015. They found that larger pools diversified
over multiple styles are likely to have the best returns, but
that having too many hedge-fund holdings could damage
These results provide some evidence that
funds-of-hedge-funds managers are smart and allocate more
assets to holdings with good future performance, the
Still, hedge fund of funds performed poorly over the last
decade, with HFRIs fund-of-funds composite index
returning a mean of just 4 basis points a month between 2008
and 2016. Theyve seen substantial outflows as a result,
with industry assets under management collapsing to $360
billion by the end of 2016, from $1.2 trillion in 2007,
according to the study, which cited BarclayHedge data.
[II Deep Dive: Funds of Venture Capital Funds Have Edge Over
Gao, Haight, and Yin say the low returns are not the result
of poor manager selection but rather the double set of fees
imposed on fund-of-funds investors, who must pay fees both on
the fund of funds and the underlying investments.
The skills of funds-of-hedge-funds managers
significantly increase performance before fees, the
authors said. Our findings suggest that any after-fee
underperformance of funds of hedge funds is more likely to be
driven by funds-of-hedge-funds double-layered fee
How to improve that fee structure, they added, is a subject
for further study.