LONDON Pension funds and other institutions have become the largest investors in hedge funds over the past decade as they seek protection from any re-run of the financial crisis.
They have replaced funds of funds and high-net-worth individuals as the largest allocators to hedge funds, an 11-year industry review by data firm eVestment said on Wednesday.
The move partly reflected losses suffered during the financial crisis, said Peter Laurelli, eVestment's head of research, when many markets fell together at the same time and conventional diversification failed to prevent losses.
One attraction of hedge funds is that they typically offer returns that are less tied to swings in the broader market, although this comes at a higher cost.
"To prevent any sort of event like that in the future, they wanted to be diversified across a broader set of asset classes," Laurelli said.
For those looking to pick a hedge fund winner, there are now many more established funds to choose from, with more than half of funds at least five years old compared with less than 30 percent in 2003.
Those that have been around for less than two years, however, posted higher returns in each of the last 11 years, the report found, boosted by their ability to time the fund launch to coincide with an environment that best suited their strategy.
Smaller funds, worth less than $250 million, were found to have underperformed their larger rivals since 2009 after posting better returns in the years leading up to the financial crisis.
The smaller funds posted average annual returns of 8.28 percent between 2003 and 2008. This compared to 5.05 percent for medium-sized funds and 4.71 percent for larger funds, worth between $250 million and $999 million, and $1 billion-plus, respectively.
Since 2009, however, annual returns at smaller funds had shrunk to 7.63, lagging medium- and large-sized funds, which returned 8.63 percent and 7.83 percent, respectively.
A higher concentration of smaller funds using managed futures, primarily trend-following strategies, contributed to the recent underperformance, Laurelli said.
"When you look at what has performed better in the last five years, it's been funds with equity exposure, it's been areas like securitised credit and event driven (investments)," he added. "All those areas tend to have larger funds operating."
(Editing by Simon Jessop)