Alternative instruments key to hedge fund growth

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It is difficult to think about hedge funds and not come up with an immediate caricature. Perhaps it’s the obscene paychecks that managers have pulled in over the years, enabling Steven Cohen, founder of SAC Capital Partners, to spend more than $700 million (Dh2,571m) on art.

Or the first thought could be about the massive blowups over the years, such as a couple of Bear Stearns funds that collapsed due to sub-prime last year and the failure of Long Term Capital Management (LTCM) in 1998.

While these perceptions are not baseless, they don’t accurately portray reality. Today there are more than 7,500 hedge funds controlling about $1.87trn in assets, according to Chicago-based Hedge Fund Research Inc.

Antoine Massad, CEO of Man Investments in the Middle East, spoke to Emirates Business recently about the growing appetite for alternative investments in the region, and why funds of hedge funds are gaining traction.

Are hedge funds riskier than equities or bonds?

If you stay in the middle, being objective and not going to either extreme, hedge funds are not riskier. I have spent 20 years doing this.

If you are investing in a highly leveraged single manager fund, then that is compared to buying a single stock. What we sell is somewhere in the middle. Worldwide, Man Investments has more than $70bn in assets under management.

How much of that is from the Middle East?

Around 10 per cent of Man’s assets under management are from the region, $7bn. When I started [in 1992], total assets was $500 million globally.

In terms of attracting investors, the region is stable. When the rest of the world does extremely well, we lag a little behind, and when the rest of the world is really bad, we shine. We have the highest rate of repeat business in the world. Our clients keep returning – in terms of retention rate, we are the highest in the world.

Do you have separate products for private and institutional investors?

A lot of the private clients go for something slightly more leveraged to get their returns. Institutional clients usually come in  and say this is what we are looking for, we want exposure to certain strategies, sometimes if they are very sophisticated they say they don’t want manager A, C and M.

They come with very specific requests and we serve both. We cater to the private clients through our wholesale business – we have a network of 60 to 70 active distributors in the Middle East, although 80 per cent of our business is in the GCC. As for institutions, most of our products are tailor-made.

Is there a difference in clients across the region?

Saudi is more on the institutional side; the UAE is strong on the private-client side. Kuwait is a mix. Currently, cash is all over in the region, just looking for a home.

You have capital guaranteed products, some of which insure more than 100 per cent return at maturity.

Are these popular in the region?

We attached principle protection to some products over a decade ago, and these remain popular.

Even those who bought in 1996, who know the good and bad side of Man and have seen good and poor performance, continue to invest in these products. It is interesting when we talk to customers in the region and ask what they want to buy – a non-guaranteed or a guaranteed product – they almost always initially say they don’t care about the guarantee.

But when we put both products together, the private client always picks up the guaranteed fund. When faced with the choice of giving up half a per cent or one per cent a year but getting the safety and security, they go for it.

Does Man have investments in the region?

We don’t have exposure in the Middle East. Only now are they coming out with tea future contracts and derivatives are only a year old. If you look at liquidity, it is minimal. We consider the region an emerging market – a newly born emerging market.

The contracts and instruments necessary for a functioning hedge fund are only being created as we speak. If we have this conversation in a year, maybe we will have some exposure by then. Today, we can’t short stock and we can’t buy index futures.
 
These instruments are coming, and it will come quickly. But you need liquidity and volume for players to come in. We need futures, we need to be able to short stocks and we need convertibles. We need all the alternative instruments, because this is what hedge funds use.

With more hedge funds and private equity managers entering the region, has the competition for investors become harder?

Our competition is not hedge funds. It’s real estate – anything that takes cash is competition. Local stock market is competition.

Is the dramatic rise in the assets of mutual funds in the region a sign of local investors opting for GCC markets?

The sudden growth in the size of mutual funds based in the region is due mostly to  only international investors looking for exposure in the region and investing in these funds.

International institutional investors are deploying funds in the region because there are some good outlooks and fund managers in the UAE, Egypt and Saudi Arabia. Financial markets have been very erratic over the past six months, yet many hedge funds have been able to weather the storm.

How are the managers achieving returns?

In our current lineup, we are very big in managed futures with exposure to more than 130 markets. There is higher volatility in futures, around 16 per cent, and the annualised net return to investors is around 18 per cent.

We have about $22bn that is the high octane, higher volatility product we have on offer, single manager, single strategy. Being on the right side of the market factors into the performance of futures, but the investments benefit a lot from volatility.

In fact, the worst thing for a managed futures programme is when there is no volatility. Volatility has been positive for returns of hedge funds. We have seen strong trends in currencies, the dollar yo-yoing with other currencies moving in opposite directions and commodities and oil moving up and down.

The turmoil caused by sub-prime emerged when Bear Stearns funds collapsed.

How has it affected Man?

We didn’t have any exposure to sub-prime – we are not into that business. I am not saying we didn’t get in because we are geniuses – it’s just not what we do.

Given the widening spreads in bond markets, do you think the time has come to re-enter the debt markets?

The volatility in debt markets is going to continue because the sub-prime problem is not over yet. Most banks don’t know what they are exposed to or how much is their exposure, and this is going to drag on until the summer.

We will continue to see mispricing in all of these securities, which is good for us as long as we keep ourselves on the right side of the market. Funds of hedge funds are criticised for adding an extra layer of fees on top of the already hefty hedge fund fees, which are typically 2 per cent of assets and 20 per cent of profits.

How does Man Investments justify this fee structure?

It depends on who is buying and what is delivered. Two or three years ago, fund of funds reduced their fees. But the good funds of funds have been increasing their fees lately.

Do investors mind paying fees to someone who is going to deliver absolute returns?

If you are a fund of fund manager, and say you are going to invest in a number of strategies and target returns of LIBOR + 6 or returns of 12 per cent per annum, and deliver, investors typically don’t question the fee. You have to pay for the skill to deliver the returns. Nobody works for free.

Antoine Massad

Associate Director and head of Man Investments Middle East

Antoine Massad is an associate director and head of Middle East and Asia for Man Investments based in Dubai. Massad has spent more than 19 years with Man Investments in the region.

His main responsibilities cover sales, marketing and business development throughout the Middle East and Asia to meet the needs of local as well as international private and institutional investors.

He is also a member of the Man Investments Management Committee and the Global Sales and Marketing Committee. Prior to joining Man in 1989, Massad was a private banking executive at Banque Nationale de Paris in Bahrain.