While hedge funds have suffered publicly in terms of reputation since the financial crisis, portfolio managers have a different view of the asset class. Over the past several years, institutional investors have been feeling the pain of historically low fixed income yields. Pension funds, trusts and endowments are struggling to earn minimum hurdle rates in order to continue their existing program support or meet liabilities. As a result, portfolio managers are being forced to think beyond the typical stock and bond portfolio in order to earn sufficient returns without taking on unacceptable levels of risk. In many such scenarios, such portfolio managers are looking at expanding their portfolio concentrations in traditional alternative asset domains of institutional investors, such as commercial real-estate and private equity type activities. Other portfolio managers are also taking a long look at hedge funds that offer low correlation with equity markets, but that may offer more attractive yields than fixed income products do today.
Hedge Funds an Attractive Option for Nobel Prize Fund
One such institutional investor feeling the pain of low fixed income returns is the Nobel Foundation, the investment portfolio that supports the annual award of Nobel prizes in physics, chemistry, medicine, peace and literature. In 2012, these award payments will be cut for the first time since 1949, due to a sharp 18 percent decline in the funds value since 2007. This year’s winners will take home 8 million kronor ($1.2 million US), down 20 percent from the 10 million kronor award last year.
According to Bloomberg Businessweek, the Foundation is looking to hedge funds to provide a boost in returns beyond what the portfolio is currently seeing from its debt holdings. In speaking about the inclusion of hedge funds into the fund’s portfolio, Executive Director Lars Heikensten said, “When we look at the analysis, we see that we can get more return with less risk by doing that. If we can choose hedge funds that we trust, then we can get better returns for given risks.”
The Nobel Foundation has attempted to preserve the original purchasing power of the award since the first laureates received it in 1900. The Nobel Prize in economics was added later through a contribution by Riksbank of Sweden in 1968.
Hedge Funds may not be the Cure All Solution to Institutional Troubles
While selective use of hedge funds within a portfolio may certainly offer better return for risk than some fixed income choices today, hedge funds certainly are not the total answer to weak portfolio returns. In fact, on average, hedge funds significantly underperformed stocks globally in the first 11 months of this year. The HFRX Global Hedge Fund Index earned only 2.4 percent through November, while the MSCI World Index posted a much stronger 11 percent return.
However, it’s important to remember when assessing hedge funds that equities are not always an appropriate comparison or benchmark. Certain hedge fund strategies have risk profiles much more similar to fixed income investments, and accordingly, should not be expected to outperform riskier stock indices every year. For portfolio managers looking to add return while reducing correlation with equities, hedge funds are an increasingly attractive option in a world of low fixed income yields.