Widely followed survey finds hedge funds with “highest level of optimism since financial crisis”

Blamed for the global financial crisis and credit crunch, liquidated to the point of almost collapse, slammed, ridiculed and chastised by the press, reviled by the public and on the hit list of virtually every regulatory agency on the planet… the hedge fund industry from late 2008 into 2009 wasn’t looking so hot. Hedge funds were viewed as the evil pariah and being a hedge fund manager was about as good as being a lawyer or politician.

Fast-forward to today and it’s like 2006 and 2007 all over again: calling yourself a hedge fund manager actually did get you past the velvet rope and into the club. Post-global crisis and recession, most hedge fund managers are back to feeling optimistic. They are especially excited about the rest of 2011 and expect, particularly, institutional investors will continue to pour capital into the business as they broaden their investment mandates further into non-traditional asset classes.

Indeed, the unbridled, it-never-happened optimism is very distinctly captured in Rothstein Kass’s latest hedge fund industry report (this year carrying the subtitle “Brighter Days Ahead?” – click here to download), which paints a very rosy picture for the hedge fund industry’s collective prospects.  According to the optimistic survey, the overall outlook for the hedge fund industry will continue to improve in 2011, with managers expecting more launches, fewer closures and more money flowing in, particularly from institutions. (See the illustration below.)

By percentages, nearly 60% of managers said they expect to increase their assets under management by 25% or more this year, compared to only 32% expecting to reach that level in the 2010 survey. (Click here to download that one from Rothstein Kass’s Web site and click here for AllAboutAlpha.com’s Back to the Future analysis of it).

Meanwhile, operational improvements ranging from outsourcing non-investment functions – the new, improved way to ensure that the custodian, lawyer and third-party marketer don’t all work out of the same small cubicle in Jersey City – to better communications with investors and the broader public have made hedge funds a lot less opaque and mysterious than they used to be. More flexibility on fees has also helped.

With economic conditions perceived to be normalizing, nearly 70% of the hedge fund managers polled anticipate increased consolidation in the asset management space in 2011, mostly due to regulatory developments and compliance costs. Slightly fewer indicated that consolidation would be driven by the desire to acquire clients and grow market share.

While more competition is anticipated, hedge funds do plan on raising money this year. Institutional investors, including pension funds, endowments, sovereign wealth funds and family offices, are all seen as excellent sources of new investment capital.

One caveat that may dictate which hedge fund managers get what is size. According to the survey results, while generally more interested in hedge funds overall, institutional investors are leaning more toward larger, more established funds. The survey also found that more than 85% “expect institutional investors to be more averse to high concentrations of illiquid portfolio assets,” while more than 80% of survey participants “expect institutional investors to continue to exhibit a preference for allocations to larger hedge funds.”

For new funds, meanwhile, seed capital is becoming more critical to effectively achieving the scale required for success. More than 60% of the hedge fund managers surveyed noted that where and how they get their initial capital was critical to the longer-term success of the fund and business.

At the same time, nearly 40% of the hedge fund managers expect pensions and endowments to become involved in seed capital financing.

That’s not to say the going is going to be easy. Indeed, according to Rothstein Kass, investors are on guard for signs of the next potential market disruption, likely in the form of another bubble of some kind (potentially in commodities or gold).

To be sure, that’s not going to stop the hedge fund industry. So long as investors – institutional or otherwise – feel the need to diversify, the need for hedge funds will remain strong. “Even at the height of the crisis, our research found that the hedge fund community remained confident in its long-term positioning,” said co-CEO Howard Altman. “Still, in the face of market uncertainty and regulatory challenges, most managers acknowledged the many obstacles ahead.”

We wouldn’t stretch it as far as to call it a new lease on life, let alone a reincarnation. We would suggest that hedge funds’ ability to persevere and thrive is a sign that they’ll be around for the long haul – and maybe not quite as downtrodden when the next financial crisis inevitably hits.

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