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Fund of hedge fund industry still in reconfiguration despite strong performance

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Fitch Ratings says the fund of hedge fund industry is still in reconfiguration despite being on course to register the best annual performance in ten years.

Industry consolidation, decreased assets under management and changes in the rankings of FoHF managers in terms of assets managed remain key topics for the industry and point towards a reshuffling of business propositions and product offerings, according to Fitch’s FoHF quarterly newsletter.

As of September, FoHFs are up about nine per cent year-to-date, according to various data providers. However, it is not clear if AUM have bottomed-out after large redemptions earlier this year, as AUM are not yet showing signs of a decisive rebound.

"The performance of fund of hedge funds has largely benefitted from positively-oriented stock markets and is proving less volatile than single-manager hedge funds, although their lower directional market exposure and higher levels of cash held are hindering them to some extent," says Aymeric Poizot (pictured), head of Fitch’s EMEA fund and asset manager rating group.

Despite this, FoHFs continue to lag single-manager hedge funds in absolute performance, which is prompting part of the investing public to question their benefit. Fitch’s latest quarterly update endeavours to analyse this performance difference and show why FoHFs are still providers of "alternative beta" for investors looking to outsource investment selection.

Fitch expects the impact of top-down inputs and resources in FoHF portfolio management, such as macro-economic and strategic allocation, to grow in importance. In this respect, the current and anticipated market environment may cause FoHFs managers to fundamentally review their performance generation approach in order to better adjust to changes in macro-economic conditions and heightened competition in the sector.

In their search for marketability, transparency and liquidity, FoHF managers are currently launching regulated Ucits vehicles, using replication techniques, total return swaps or Ucits single-manager hedge funds.

Fitch notes that although the intention is in line with the general desire to offer access to alternative strategies through better structured and regulated vehicles, there are various challenges and risks associated with this strategy.

Such challenges include the still evolving regulatory framework that may have implications for the future of some of these products, the deviation risks stemming from replication models, the currently limited size of the UCITS-authorised hedge fund universe and the lack of transparency of the TRS approach.

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