Hans Schlaikier, Hedgeweek

Hedge funds recover from early 2014 losses… survey scrutinizes hedge fund manager credibility…

Hedge funds were up 1.83 per cent in February 2014, according to Eurekahedge, recovering from their losses in the start of the year as the MSCI World Index posted gains of 3.87 per cent during the month.

Hedge funds recovered from January losses - all investment strategies yielded positive returns during the month with long/short equities and distressed debt leading with gains of 2.42 per cent and 2.33 per cent respectively
 
Global markets trended upwards during the month led by a resurgence of investor confidence in the global economy. Market sentiment held strong as weaknesses in recent US macroeconomic data were largely attributed to the weather conditions, with Fed chair Janet Yellen reaffirming the need to keep the QE tapering on track as the US economy continues its recovery. Emerging markets also showed signs of stability with the MSCI Emerging Market Index rising 2.15 per cent during the month. Meanwhile, positive macroeconomic data from the Eurozone showed acceleration in manufacturing activity which provided further support to the markets.
 
All regional mandates, with the exception of Japan, ended the month in positive territory with North America focused hedge funds realising the strongest gains. The Eurekahedge North American Hedge Fund Index was up 2.46 per cent as MSCI North America Index gained 4.47 per cent during the month. European fund managers were up 1.87 per cent with the FTSE 100, DAX and CAC Index rising 4.60 per cent, 4.14 per cent and 5.82 per cent respectively. Fund managers focused on Eastern Europe and Russia were up 0.29 per cent during the month, emerging largely unscathed as the crisis in Ukraine intensified towards the month-end. Latin America focused hedge funds outperformed underlying markets yet again, with managers delivering gains of 0.50 per cent in contrast to a 0.69 per cent decline in the MSCI EM Latin American Index.
 
The Eurekahedge Asia ex Japan Hedge Fund Index was up 1.81 per cent, with Greater China and India focused hedge funds delivering gains of 1.02 per cent and 4.05 per cent. Japan investing hedge funds were down 1.06 per cent as the Yen remained largely flat versus the US dollar (marginally down 0.06 per cent) with the Nikkei 225 Index and Tokyo Topix declining 0.49 per cent and 0.74 per cent during the month.

All hedge fund strategies posted positive returns in February, with long/short equities managers outperforming their peers and delivering gains of 2.42 per cent as global equity markets rallied during the month. Distressed debt investing hedge funds posted their eighth consecutive month of positive returns, up 2.33 per cent - outperforming the BoFA Merrill Lynch US High Yield Index, which gained 2.0 per cent during the month. Multi-strategy, arbitrage and fixed income hedge funds were up 1.57 per cent, 1.20 per cent and 1.16 per cent respectively, while managers deploying macro strategies rebounded from their January losses to finish the month with gains of 1.32 per cent. CTA/managed futures strategy was up 1.71 per cent, with managers realising gains from their exposure to precious metals as gold and silver rallied during the month. Managers utilising systematic or trend following strategies also posted strong gains and were up 2.17 per cent during the month.
 
Hedge fund directors have come in for criticism from investors and operational due diligence officials for a lack of scrutiny of the funds they represent.
Hedge fund directors continue to come under pressure to improve fund oversight and corporate governance. A majority of investors and operational due diligence analysts think directors do not provide true independent oversight of funds while nearly three-quarters believe directors do not serve a useful function, according to a recent survey by Corgentum Consulting.
 
Of those polled, 73 per cent of investors say they do not think directors are “useful”. However, the survey points out that there is a lack of understanding of the role of directors.

“Competent fund directors can actually add value to the overall governance of a hedge fund,” says Jason Scharfman, managing partner of Corgentum Consulting

“Many investors simply view these directors as an extension of the fund itself,” he adds. Over half (62 per cent) of the group surveyed feel directors do not have much credibility with fund managers and do not provide independent oversight, according to Scharfman.
 
Although investors are making multi-million dollar investments, they are reluctant to spend more money on due diligence, believes Scharfman. “Many investors are either not researching or under-researching hedge fund directors during the due diligence process. This represents a significant missed opportunity to increase their understanding of the governance mechanisms in place at funds. Through operational due diligence, investors and operational due diligence analysts can separate the better directors from the pack,” he adds.

However, investors want directors to add value, with 63 per cent seeing them as their proxy ‘watchdog’ and 27 per cent expecting them to promote good governance. Investors want directors to look out for their interests over those of the managers and believe the current fund models do not support this type of commitment. In a conflict between investors and the fund, 73 per cent think directors will side with the fund.
 
These opinions, however, are at odds with reality as directors have virtually no ongoing interaction directly with fund investors. Only 39 per cent of respondents say they conduct interviews with fund directors as part of their due diligence process. A much smaller segment (18 per cent) performs background investigation on directors. 
 
A majority of investors (62 per cent) also think directors lack credibility and almost an equal number think hedge funds do not give real weight to the opinion of directors.
Nearly a third of investors believe the number of directorships held by an individual should be capped at 15. Only 18 per cent think it is appropriate for directors to hold more than this number. A smaller percentage (24 per cent) think the number of directorships should be capped at nine. This challenges previous industry survey data that showed a higher investor tolerance for more board positions, according to Corgentum. It also contradicts the reality that many investors accept the fact that many directors sit on different boards well in excess of these suggested limits.
 
The biggest surprise revealed by the survey, says Scharfman, is the fact investors do not do enough work in researching the role of directors. “I’m not surprised about the perception that directors should be watchdogs when that is not necessarily a core duty. There is a misunderstanding of the role of directors and a misinterpretation of the relationship between investors and directors,” he adds.
 
Over a quarter (28 per cent) of respondents are operational due diligence analysts at hedge fund allocation organisations, while 3 per cent are in other parts of the hedge fund industry including service providers such as administrators and law firms. A majority (77 per cent) of those surveyed represent more than USD500 million in assets under management. North America and the Caribbean has the most respondents (64 per cent), while Europe accounts for nearly a third and 4 per cent are based in Asia.

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