Investors hungry for a piece of consistent outperformance will find it costlier than before
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With active managers struggling to earn returns, hedge funds that offer genuine market outperformance are especially desirable for investors. But putting one’s assets in such funds is about to get more challenging.
“It’s very hard to find someone who can consistently do well,” Kieran Cavana of New York-based Old Farm Partners told the Wall Street Journal. “There just is not enough capacity for the amount of money that wants to go into those firms.”
Among those firms are Israel Englander’s US$35.9 billion Millennium Management and Kenneth Griffin’s US$31 billion Citadel LLC. According to the Journal, Millenium’s sole hedge fund rose 8.3% for the year through September, while Citadel’s flagship fund was up 13.5% prior to October’s volatility and declines. In comparison, HFR figures show hedge funds averaged a paltry 1.4% over the period, while the S&P 500 gained 10.6%.
Looking at longer-term track records, Citadel’s flagship fund achieved an average annual return of 8.9% over a 10-year period that ended Dec. 31, 2017, while Millennium returned 10%. Since inception, they’ve averaged 19.1% and 14% per year, respectively.
As increasingly unpredictable markets shake investor’s faith in continued growth, the demand for shares in winning funds has likely increased. While struggling active managers have been forced to either shutter their funds or cut their fees, Citadel and Millennium both have waiting lists for investors — and have decided to set stricter terms.
Millennium has announced that investors will get back their profits early next year; those who want to reinvest that cash with the fund must sign up for a new share class that allows them to take out 5% of their assets a quarter. Effectively, that makes it a wait of five years to get all their money back, as opposed to the current one-year wait.
Citadel’s changes, meanwhile, are more nuanced. Investors in its flagship multi-strategy hedge funds, Kensington and Wellington, will be getting their profits at the end of the year. Starting in 2019, clients who want to reinvest in the funds must pay a new 1% annual management fee on top of fund expenses that Citadel already passes on to clients.
“The new fee will count toward the performance fee clients pay, meaning that in profitable years the overall amount investors pay will remain unchanged,” the Journal said. “But a client who exits after a losing year would be slightly worse off.”
The firm is also changing terms for two other funds that it runs: one global equities mandate and one fixed-income strategy that together have some US$6 billion in assets. Rather than a fixed 2.5% management fee, it will start charging clients expenses that it passes on to them in 2019; at the same time, performance fees for those funds will be dropped from 25% to 20%.
Under that new arrangement, clients are expected to pay less overall in lean-return periods. But when returns are higher, they stand to pay more, according to several investors.
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