Hedge fund managers must prove performance and transparency mettle or suffer reputational risk, says SEI study

With significant dollars poised to flow into hedge funds in 2012, managers must address investor transparency and liquidity concerns to take advantage of new funding opportunities, according to the fifth annual global study released today by SEI, in collaboration with Greenwich Associates.

The second report in the two-part series, titled "The New Dynamics of Hedge Fund Competitiveness," indicates a need for hedge fund managers to move beyond portfolio transparency to provide investors with consistent and insightful communications along with direct access to investment teams. Liquidity and the inability to control exit strategies have also emerged as key concerns for hedge fund investors.

"Client expectations are changing, and despite managers demonstrating improvements in reporting, the study shows that portfolio transparency is simply not enough to satisfy investors anymore," says Ross Ellis (pictured), Vice President, Knowledge Partnership for SEI's Investment Manager Services division. "Managers have focused on improving reporting data in recent years, but in order to be successful going forward, their focus must expand to meet emerging client demands for increased personal interaction and dialogue. The playing field has changed and that's clearly the next level of transparency it will take to win in the Era of the Investor(TM)."

Beyond communication, the survey shows that investors want greater detail in terms of security-level disclosure, including leverage detail, valuation methodology, and risk analytics. The study also showed that liquidity has emerged as a key area of concern among investors. Nearly a third of respondents (31 per cent) cited ongoing liquidity risk among their biggest hedge fund investing worries, while "an inability to control exit strategy" was named by 46 per cent of respondents.

"Evaluating and selecting fund managers has always been a top-of-mind concern for investors," says Rodger Smith, Managing Director of Greenwich Associates. "What this study brought to light is that, as long as they can articulate their value proposition and differentiate themselves from their peers, there is a place for smaller and newer funds in institutional portfolios. In fact, one in five investors polled said they have no asset minimum requirements in order to invest, and while a majority of those surveyed said they seek hedge funds with a history of at least three years, roughly a quarter would consider less, and 14 per cent would not eliminate a fund without a track record at all."

Highlighting the increasing inability of investors to distinguish among strategies, 17 per cent of respondents said manager selection is the single most important challenge facing hedge fund investors today. While 95 per cent of respondents said clarity of investment philosophy is important or very important in the selection process, more than half of respondents (61 per cent) said there are too many look-alike strategies in the hedge fund industry. Given that challenge, more than half of respondents (51 per cent) said hedge funds are too complex to evaluate without a consultant's help. Respondents were decidedly mixed on the importance of brand in the selection process, while operations are clearly a critical aspect in selecting managers, with 80 per cent of those polled agreeing that operational strength is a hallmark of an institutional-quality fund.

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