In This Issue:

• Institutional Investors Search for Global Macro Funds - Emily Hausman
• MENA Attracts Investor Attention - Richard Rapacki
• Investors Headed Back to the Fundamentals - Micah Jacobs
• Hot New Mandates
  

One of the most popular fund strategies mentioned to BHA analysts by hedge fund investors in the past month has been global macro.  During the week of May 25, over 50% of active hedge fund investors that BHA analysts spoke with expressed interest in global macro funds. Many of these investors are institutions, including corporate pensions, government pensions, and endowments. 

Institutional investors do not want high volatility or extreme market correlation in their portfolios. Since global macro funds are able to capitalize on opportunities throughout the world, they are able to safeguard capital while the overall market is performing poorly.  According to the November edition of Quant Corner, “global macro strategies have managed to ’protect’ capital better than most strategies during distressed periods in the global markets.”  A corporate pension fund in Canada is interested in a variety of strategies, but especially interested in global macro due to low correlation and low market risk.  It avidly monitors its risk and requires detailed transparency reports so that it can evaluate market correlation and volatility.

Many institutional investors also aim to keep their portfolios diversified. Global macro funds give them access to different types of investments, which reduces the risk associated with hedge funds as well. A government retirement board told a BHA analyst that it is interested in investing with global macro funds because they fit in with its portfolio objective of diversification.

BHA analysts have continued to see an increase in global macro mandates throughout 2009.  Institutional investors seem to be leading the way due to the benefits associated with the strategy.  Of the institutional investors interviewed by BHA in May, 42 percent said that they would invest in global macro hedge funds. 

Recently, an increasing number of private equity investors have begun to look to Middle East and North African (MENA) countries as target locations for future investment. In the month of May, analysts at Brighton House Associates found that almost 17 percent of private equity fund investors expressed an interest in MENA funds. One such investor was a wealth advisor based in Dubai who believes that this portion of the globe has only begun to blossom. Because poor market conditions have pushed prices down, he sees ample investment opportunities.

One reason for investor interest in MENA countries is the area’s lack of exposure to the subprime crisis. Overall, Middle East and North African banks’ holdings of subprime mortgage-backed-securities were negligible. This has helped to keep the area relatively stable unlike other parts of the globe.

Another factor is the recent settling of the global economy. While there are still several issues that stand in the way of economic normalcy, the overall outlook has become less bleak. This has had two positive effects. First, investors are more open to investments in less developed parts of the globe, because they are no longer as worried about the stability of developed regions. Second, investors are expecting MENA countries to see an increase in oil consumption as well as other contributors to their respective GDPs.

Given the current market conditions and future expectations, many investors are turning to the MENA region as a discounted investment that they anticipate will generate better and better returns moving into 2010 and beyond. Brighton House analysts anticipate that this trend will continue for the foreseeable future.

In 2007 and 2008, many investors piled into systematic, quantitative, “black box” funds because these alpha-generating funds were typically outperforming their peers. However, the liquidity crisis brought on by the bursting of the real estate bubble, the credit tightening by banks, and the subsequent de-leveraging by many funds caused many of these computer-driven funds to suffer huge losses and redemptions.

Fundamental, bottom-up long/short equity managers look at potential investments at the firm level rather than at the overall macroeconomic level. They also assess both qualitative and quantitative factors before adding equity to their portfolios. Qualitative factors include how the firm is managed, its competitive position, the industry’s growth prospects, research and development, and its brand value. Quantitative factors include how the firm is financed, the size of its long-term debt, how much cash flows it generates from operating activities, and how efficiently it is operating. Managers analyze this last factor by looking at Return on Net Assets (RONA), inventory turnover, and how it executes mergers and acquisitions.

The huge losses incurred by funds have also caused institutional investors’ to insist on transparency. Many investors think there is still a lot of value to be had in equities. However, before investing, they want to know a portfolio’s theme, direction, and the top positions. This type of disclosure is increasingly becoming non-negotiable for fund investors. The challenge for investors during the last few quarters has been finding managers that could take advantage of fundamental investing techniques when, as investors put it, “right now there are no fundamentals.” Many of the inputs and assumptions used for valuing equities in the past have changed, including the risk-free rate as well as future growth rate assumptions.

Nevertheless, investors have been seeking funds that have low volatility and a long-term investment horizon. They are looking for long/short equity managers that have a proven track record of identifying value stocks and protecting investors’ capital while still outperforming the overall stock market. Investors are less concerned with the leveraged, high-volatility long/short equity funds of the past that generated returns of 17 percent to 25 percent annually. Instead, they are targeting funds that have rigorous methods for selecting individual stocks and are focused on preserving capital, but also providing consistent returns of 9 percent to 12 percent.

© 2009 Brighton House Associates, LLC. 4 Mount Royal Ave., Suite 140, Marlboro, MA 01752

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