Alternative Investments are no Panacea

 

Why do investors continue to be enamored with hedge funds and other alternative investments? The press recently reported that institutional investors are expected to increase allocations to hedge funs by 300% this year, and hedge fund assets are expected to increase by 11% to $2.5 trillion, according to the 11th annual survey of institutional investors by Deutsche Bank.  The survey included 324 institutional investors that manage or advise on $1.2 trillion of hedge fund assets in 25 countries. The report was written in part by the head of Deutsche Bank’s hedge fund capital group for the Americas (“New Hedge Fund Deposits to Triple, Deutsche Bank Says,” by Bei Hu, Bloomberg).

$123 billion of new capital will be invested in hedge funds by institutions like pensions and endowments that are looking for stable returns with low correlation to stocks and bonds, according to the Deutsche Bank report.  The Deutsche Bank report predicted that 2013 would be “promising for the industry.”  However, 2012 was a tough year for hedge funds, as they underperformed the 13% advance in the MSCI World Index.

What is promising for the hedge fund industry is not necessarily promising for the average hedge fund investor.  While many institutional investors are doubtless in a better position to evaluate hedge funds than most individual investors, in general, hedge fund investments are problematic.  They must generate outsized returns (incurring outsized risks) in order for investors to just break even, because of high management fees and expenses. Some experts have said that most hedge fund investors would be better of buying Treasury bonds.  Critics also point out that hedge funds are often more highly correlated with stock market volatility than advertised. See White Paper on Alternative Investments.

The same problems are associated with most alternative investments. Investors need to tread with caution when evaluating the investments. For more information, see What Every Investor Should Know About Alternative Investments.

Page Perry is an Atlanta-based law firm with over 150 years of collective experience maintaining integrity in the investment markets and protecting investor rights.