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Arabian investors remain skeptical of hedge funds

Posted on 06 March 2012 with no comments from readers

It will be five years this August that quantitative hedge funds suddenly dived losing 50 per cent of their net asset value, and they have been out of fashion ever since.

However these funds – which base their investment on the mathmatics of the famous rocket scientists of the sector – are coming back into favour if only because of their recent outperformance of their deadly rivals the fundamental hedge funds that operate on a more intuitive basis.

Quant vs fundamentals

The whole first morning of the Hedge Funds World conference in Dubai this week was devoted to this slightly arcane debate though the region’s investors seemed very interested to discover what hedge funds still think that they have to offer.

Recent performance has not been great. Only a fifth of the ‘quants’ as they are known earned more than 10 per cent last year. Still in a world where bonds pay sub-inflation rates that is worth examining more closely.

‘It’s a matter of putting quantitive analysis ahead of the human emotions of the fundamental approach,’ said Invesco’s quant CIO Bernhard Langer. ‘Even in the bad times this will deliver better performance’.

The logic is strong. Computer models do not over-react to bad times. They always have a clear head in a crisis. But quizzing ArabianMoney’s friends from the Abu Dhabi sovereign wealth funds afterwards still brought a note of skepticism.

They wanted to know about leverage and fees. Are the quants not simply back because they can now borrow again to leverage up their returns? This naturally delivers extra performance but only at the cost of additional downside risk to investors. Leverage is costly to the downside.

Then there are the high fees. Hedge funds take a slab of the winnings but never expect to have to share in losses. It’s an assymetric risk that has left some sovereign wealth funds replicating their strategies and taking all the profits.

These strategies can be hard to fathom, nonetheless, and perhaps the opaqueness is to deter immitators or simply to keep customers baffled. Then you just pay in your money and hope to get more back.

Hidden catches

Arabian investors also previously found themselves caught by long lock-in periods and redemption penalties hidden in small print that they may have neglected to read in the rush to get rich.

Foreign exchange funds are popular at the moment because they are highly diversified and very liquid. But as any veteran of FX knows this sector is also unpredictable and volatile.

Quant managers claim that they do not try to predict the future. They let the numbers tell them what to do and mine data from many sources for the best numerical advice.

It is all very impressive but when it comes to selecting a hedge fund its often done on a fairly fundamental basis with managers taking a turn in a beauty parade to investors. This is the bit the computers can never handle, so investment remains a human business after all.

Posted on 06 March 2012 Categories: Hedge Funds

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