Passive investment in hedge funds has always been somewhat of an oxymoron.  Hedge funds, after all, aim to deliver active management (alpha).  And since alpha is a zero sum game, a passive investment in hedge funds should deliver a zero return.  Nonetheless, this axiom has always been challenged by proponents of various products designed to deliver aggregate “hedge fund returns”.

First there was the passive fund of funds; then came the investable hedge fund index; and finally there was hedge fund replication.  In essence, all of these products delivered similar value propositions: diversification, transparency, and liquidity.  (Despite the tendency for these providers to compete on returns, out-performance was never officially the goal of these “passive” products).

Hedge fund replication seemed to be the story of the year in 2008.  But in the post-Madoff environment, the pendulum may be swinging back in the other direction.  The investable hedge fund index – derided by proponents of hedge fund replication as being expensive and opaque since it invests in hedge funds themselves - is making a comeback. More…