The FINANCIAL — As the hedge fund industry matures, managers who survived the financial crisis are now beginning to focus on growing beyond their original business models, according to EY's seventh annual survey of the global hedge fund market, Exploring pathways to growth.
The 2013 global survey compares opinions from 100 hedge fund managers who collectively manage nearly US$850 billion and 65 institutional investors with over US$190 billion allocated to hedge funds. Topics covered in the survey include strategic priorities for hedge funds, changes in revenues and costs, technology, headcount, outsourcing and shadowing, and the future of the hedge fund industry.
Managers are optimistic about their growth prospects, according to the report. In addition to investing in new strategies and products, managers are developing distribution networks and channels in which they have traditionally not been engaged. However, their optimism is not shared by investors. A majority of investors (72%) say that they expect to maintain current allocation levels, while managers, particularly smaller managers, remain bullish about both inflows and market appreciation – managers with less than US$10 billion under management are budgeting for 15% growth in 2013.
As investor and regulatory demands grow, managers are focusing relentlessly on operational efficiency and costs in the battle to maintain margins.
Two in three managers reported an increase in revenues over the past year as performance improved and assets grew, according to the survey. However, just half of managers reported improvements in margins. One in three managers said margins declined and another 10% noted margins remained unchanged as costs increased.
Just one in three European managers noted that costs have increased versus 58% in North America. Although three in four managers in Asia said that costs had increased, they have also been the most successful in raising capital and thereby growing revenue, and margins have improved as a result.
Managers attribute increased costs to developing infrastructure to meet demands of regulatory reporting, upgrading technology and scaling the business to service growing assets. To date, regulations have primarily served to add costs to the system — costs that are being borne by investors and managers, but have provided minimal benefit to the due diligence process or to minimize any concerns of systemic risk. In fact, over two-thirds of investors say that regulations have had no impact on their due diligence process for vetting investments. Investors and managers are more aligned than in the past in their expectations for the future. Both expect increasing regulatory intrusions and accompanying costs.
There is a growing demand for customized solutions, and that demand is clearly being met, according to the report. Nearly two-thirds of investors either already invest or would like to invest in a customized product. Demand is most evident among funds of funds, with nearly 70% of funds of funds surveyed already invested in a customized solution and another 15% saying they would like to. However, there are some geographical differences, as 75% of managers in North America offer customized solutions or plan to, compared with just 50% of managers in Europe.
More than 75% of hedge fund managers in Europe and North America say that direct investment has increased and most expect this trend to continue.
An increasing proportion of managers expect that they will work with investment consultants in the coming years, which has meaningful implications for managers’ marketing strategies and service models. Funds of funds are responding by seeking out newer, smaller, managers, seeking greater concessions from them and being able to present smaller institutional investors with a package that is still saleable.
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