Editor’s Letter: The Real Reason Investors Buy Hedge Funds

Times Square draws more than 300,000 visitors a day, and they were out in full force one steamy mid-August afternoon this summer as I made my way from the 42nd Street subway stop to Broadway and 45th for a meeting with PGIM president and CEO David Hunt. Navigating the crowd of Elmos, Spidermen and other costumed characters shaking down tourists for tips, I was looking forward to speaking with Hunt, who oversees $1 trillion in assets for PGIM, the global investment management business for Prudential Financial. That morning the Wall Street Journal had published a front-page story on the “growing exodus from hedge funds” as a result of poor performance, and I wanted to get his take on the subject.

“The reporters were asking the wrong question,” Hunt told me, as we sat in a 36th-floor conference room overlooking the landmark square. “People don’t invest in hedge funds and other alternative assets for performance. The value comes from the diversification benefit, not from the return benefit.”

As a former consultant — Hunt spent 22 years at McKinsey and was co-leader of its North American asset management practice before joining Prudential in 2011 — the PGIM chief is a serious guy. His opinions are informed by hard analysis, in this case a July white paper by his firm that studied the performance of ten alternative-asset classes from January 2000 to March 2015. “With the exception of venture capital, alternatives produced better risk-adjusted performance than equities over the period studied,” the report found. Among hedge fund strategies, macro and relative value stood out for delivering the lowest risk and greatest downside protection.

Despite recent decisions by a few high-profile pension plans, like CalPERS, to dump their hedge fund holdings, Hunt doesn’t expect to see a mass exit. “Some public plans under a lot of pressure on fees have gotten out, but we won’t see hedge fund assets decline precipitously,” he says. “The story is much more complicated than it is portrayed in the mainstream press.”

What makes Hunt’s opinion — and his firm’s findings — all the more credible is the fact that PGIM doesn’t have a horse in the race: Hedge funds represent only a tiny percentage of its assets. As Hunt was quick to point out, “We’re not in defense of hedge funds.” Those words stuck with me as I pushed past a group of superheroes on my way back to the subway.