Friday, March 24, 2006


Hedge Fund-Pension Nexus

The growth in the hedge fund industry has been nothing short of meteoric with assets now exceeding one trillion dollars. At the same time, the winds of change are blowing hard. Hedge funds and fund of funds are arguably facing tougher competition, increased regulatory pressures and, in some experts' opinion, a capacity constraint. (These points are discussed in greater detail in my article for Hedgeco.net entitled "Promise or Peril".)

Of particular importance is a trend in institutional investor interest in hedge funds and other alternatives. According to "Institutional Demand for Hedge Funds: New Opportunities and New Standards" (a joint 2004 study by Casey, Quirk & Associates and the Bank of New York), defined benefit plans represent the fastest growing source of capital. This trend is already having a dramatic impact on hedge fund practices and will likely accelerate if pending Congressional pension reform liberalizes the amount of ERISA money a hedge fund can manage before having to declare itself a fiduciary.

As plan sponsors are being asked to better justify their investment decisions, they will look to hedge fund and fund of fund managers for more and improved information. Valuation of relatively illiquid securities is another concern. On March 23, 2006, the Financial Services Authority in the UK described asset valuation as a central part of its supervisory focus, adding that "hedge fund managers may be exposed to conflicts of interest as their remuneration is based on performance and assets under management". Elsewhere, the U.S. Securities and Exchange Commission has commented that "the broad discretion that these advisers have to value assets and the lack of any independent review over that activity gives rise to questions about whether some hedge funds' portfolio holdings are accurately valued". I will spend considerably more time on this topic in future postings.

On a related note, experts consider what will happen if 401(k) plan participants are given the choice of investing in hedge funds or fund of funds. Suitability, liquidity, transparency and potential returns are just a few of the issues that will be discussed at a free panel in New York City on April 4, sponsored by the North American Securities Administrators Association, Inc.

With billions of dollars at stake, the hedge fund-pension nexus is attracting a lot of attention and for good reason. Stay tuned!
posted by Susan Mangiero at 3/24/2006 10:00:00 PM