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The Europe Hedge Fund 50

U.K. hedge funds are gaining on their U.S. cousins.

Historically, the hedge fund industry -has been U.S.-based. Of the $159 billion controlled by the top 25 hedge fund firms five years ago, $148 billion was run by U.S. managers. Today -seven of the world’s top 25 hedge fund firms are headquartered in London, controlling a total of $142 -billion.

This year the 50 firms in Institutional Investor sister magazine Alpha’s annual ranking of the biggest single--manager European hedge fund outfits control a total of $405.3 billion in assets, more than 20 percent of what is now a $1.8 trillion global industry. In 2004, the first year Alpha compiled the list, the European hedge fund industry had less than $190 billion in -assets.

“When we started investing in hedge funds 12 years -ago, it was a challenge to find -any -really good man-agers outside the U.S.,” says Ibrahim Gharghour, co-head of hedge funds for Investcorp, a -Bahrain- and London--listed alternative-

investment firm that runs $8 billion in funds of hedge funds and single--manager funds. “London has matured in terms

of quality of managers, their infra-structure, the depth of market and standard of people,” Gharghour continues. “And now U.S. funds, as they grow, must -also have a -presence here.”

London--based Barclays -Global Investors, No. 1 with $26.2 billion under management, has doubled its assets over two years. GLG Partners and Brevan Howard Asset Management, -both also -based in London, are among the fastest--growing firms in this year’s ranking. With $23.9 billion and $21 billion in assets, respectively, they rank No. 2 and No. 3. London long-short -equity specialist Lans-downe Partners, No. 5, saw assets rise to $18.9 billion, up tenfold in four years. In an increasingly familiar story, Lansdowne’s growth has been -fueled by diversification -into new strategies, including emerging markets and -global -macro. The firm has -also absorbed an influx of institutional assets. New York–based -investment bank Morgan -Stanley re-cently bought a 20 percent stake in -Lansdowne.

The broader expansion of the European hedge fund industry -can’t be attributed to -any single factor. Though capital has flowed in from European institutions, it has -also come from U.S. institutional investors looking for fresh alpha and from Middle Eastern -petrodollars.

But with success comes more competition, -higher expectations and, perhaps inevitably, higher-profile falls from grace — as in the case of firms like Madrid-based Vega Asset Management, which fails for the first time to make Alpha’s list of the top European funds, and London’s Peloton -Partners.

The surge in Europe comes after a lag in hedge fund enthusiasm by European institutional investors. “Historically, the European market did tend to have a more high-net-worth-client basis,” says Michael Hennessy, managing director of Chapel Hill, North -Carolina–based Morgan Creek Capital Management, an investment firm specializing in managing port-folios for foundations and endowments. “Now the European and U.S. markets are starting to look more -similar.”

London-based Man Group is an example of a booming European hedge fund firm. Man, whose $20.9 billion single-strategy hedge fund business, Man Investments, ranks No. 4 this year, was one of the earliest to market to investors in the Middle East, with offices in -Dubai and Bahrain. Man was -also among the -very first pub-licly -traded hedge funds, a strategy U.K. hedge fund firms have been keen to -embrace.

Last year, Brevan Howard raised $1.2 billion on the London Stock Exchange for a closed-end pub-licly traded fund. This May the firm, whose flagship macro fund was up 25 percent in 2007, -raised $1 billion in a second public -offering.

Brevan Howard has grown sharply this year — it has added $4 billion in assets since the end of 2007. But GLG -faces the prospect of big redemptions with the impending departure of port-folio man-ager Greg Coffey. The -widely publicized loss of Coffey, who is -likely to take at least $4 billion in GLG assets with him to a new hedge fund, and the announcement of $222 million in losses for the first quarter of 2008 showcase the negative side of being a public com-pany. At the end of June, GLG’s share price was down 47 percent from -its November 2007 high.

Peloton Partners, a -global -macro specialist and one of the big launch stories of 2005, had $3 billion in assets at the end of 2007. But in February, it announced severe losses and -promptly began closing shop. The firm is currently winding down its operations, and one of its founders, Geoffrey Grant, is already marketing a new fund.

But Peloton’s collapse -doesn’t neces-sarily spell gloom for -macro hedge funds in London, says Jaeson Dubrovay, a senior consultant and hedge fund specialist with Cambridge, -Massachusetts–based investment consulting firm NEPC. “European--based investors are often better at seeing the global picture than their Amer-ican counterparts, which tend to be more U.S.-centric in their view,” he -explains.

Europe is also a hotbed for shareholder activists, an additional area of recent fund growth. Few do it better than Christopher Hohn, founder of the Children’s Investment Fund Management U.K., No. 10, which launched in 2002. Last year London-based TCI delivered a -roughly 37 percent return for investors, helping the firm’s assets grow from $9.5 billion at the end of 2006 to $13 -billion.

Euro-pean companies are becoming more responsive to shareholder interests, which has created opportunities for Hohn and -other activists. “A lot of capital is being allo-cated to this sector,” says Stephen Harper, CIO of London--based fund-of-hedge-funds firm Strathmore -Capital.

The credit and credit--derivatives markets in Europe have -also been a strong source of returns. London--based -credit specialists BlueBay Asset Management, No. 6, Cheyne Capital Management (U.K.), No. 12, and BlueCrest Capital Management, No. 13, have all tapped these markets. With the -seizing-up of that industry, however, the future for -credit funds is uncertain.

“This is as difficult an environment as we have -ever seen in -credit,” says -David -Bailin, the Stamford, Connecticut–based head of alternative investments at Banc of America -Securities. “But it is also perhaps the best investment opportunity hedge funds have seen in two decades.”