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Hedge Fund Investors Want More Quant Strategies, Lower Fees

Deutsche Bank’s fifteenth annual industry survey reveals a continuing appetite for hedge funds even as investor preferences shift.

  • Staff

Hedge funds aren’t dying out —— but the industry is being disrupted, according to Deutsche Bank.

In the latest edition of the bank’s annual alternative investment survey, the firm found that investors largely remain committed to the asset category, despite several high-profile divestments and a year of net outflows.

Nearly three-quarters of the 460 investors surveyed said they expected their hedge fund portfolios to perform better this year than last, and 83 percent planned to maintain or grow their allocations to the area.

However, Deutsche Bank’s Marlin Naidoo, head of the firm’s Americas hedge fund group, warned that investor demands are evolving — and managers must evolve too if they are to “stay in the game.”

“There’s been a lot of news and press around this question of, ‘Is the industry contracting?’” Naidoo told Institutional Investor. “In reality the industry is the largest it’s ever been, and what’s it’s really going through is disruption, not contraction.”

According to Naidoo, investor attitudes are shifting both in terms of which strategies they prefer and the terms they are willing to accept. One major theme highlighted by the survey is the rise of quantitative investing, with 79 percent of investors polled allocating to systematic strategies, up from 70 percent last year.

Of the top ten most in-demand strategies for 2017, half were systematic. In particular, the bank found a rapidly growing appetite for quantitative macro funds, which jumped from 12th place last year to the third-most popular this year.

“In order to stay in the game, managers either need to embrace quantitative strategies by changing, not necessarily their investment philosophy, but their investment process — or they need to narrow their focus to more niche opportunities where there’s a little more edge and which haven’t yet been disrupted by systematic strategies,” Naidoo said.

Also facing disruption is the relationship between managers and investors. Deutsche Bank noted that limited partners (LPs) are not only demanding better alignment of interests in terms of fees, they also want access to key decision-makers like fund CIOs.

“This is a relationship investment almost as much as it is a return investment,” Naidoo said. “Managers need to be able to spend more time with their LPs.”

According to the survey, average management fees have dropped to 1.59 percent, down from 1.63 percent last year. Meanwhile, performance fees have also fallen slightly, from 17.85 percent to 17.69 percent on average.

Three-quarters of investors surveyed said they had negotiated fees with fund managers. Many listed hurdle rates and scaling back management fees as assets under management grew as preferred terms.

“Investors remain committed to the industry,” Naidoo said. “But there needs to be much more dialogue between investors and managers to find the right balance.”