VanEyk Researchhas completed its first ever review of the burgeoning fund of hedge funds sector, awarding just one fund its top AA rating.
A further four funds were granted an A rating in the review, which covered a total of 14 fund of funds and one structured product.
Although the research group did not name its top rated managers, it recommended those who demonstrated knowledge and understanding of a wide range of investment strategies, and which had a clearly articulated investment philosophy with financial interests aligned with investors.
Strong risk management systems, proprietary data and stability of the team were also highly rated.
However, the research group has challenged the traditional claim by many fund of hedge fund managers that they can achieve low correlations with traditional asset classes and provide strong diversification benefits in an investment portfolio over time.
In a statement on the review findings, van Eyk said: “One of the most important findings from our review was that the correlations of fund of funds to traditional asset classes have changed over time and there have been periods when the benefits of diversification have been minimal. This must be carefully considered when assessing the inclusion and allocation of hedge funds into a portfolio.”
Another key finding was the lower than expected performance of fund of hedge funds over the past three years, with most managers now forecasting lower returns due to lower anticipated equity returns and cash rates.
Due to these changing correlations and performance issues, van Eyk has recommended that hedge funds make up only a minor part of the investment portfolio of most retail investors.
“For retail investors, we recommend probably five to 10 per cent allocation, perhaps using two managers, broadly diversified just to take away some of the business risk,” van Eyk research analyst Dennis Mothoneos says.
However, the review showed that fund of hedge funds continued to outperform most other asset classes and that their absolute risk was found to be lower than all other asset classes with the exception of international fixed interest and cash.
The research group says it chose to focus its review exclusively on fund of hedge funds and not single managers funds due to the large number of hedge funds worldwide.
“Considering there are around 6,000 hedge fund managers in the world, it would be impossible to give an analysis on that number,” Mothoneos says.
