Emerging Managers: Ambition Trumps Experience
The ability of emerging managers to provide outsized returns compared with their more established counterparts has been researched by many organizations and deemed accurate in many cases. This, in turn, has lead to increased investor interest in emerging managers, which BHA research has confirmed based on statistics gathered by analysts during their conversations with investors.
Before the market began taking an upward turn, only 10 percent of investors were even willing to consider an emerging manager, which is commonly defined as a manager that has a track record of less than two years. As April lead into May, and May turned into June, that percentage doubled to 20 percent. It reached a peak in August when over 40 percent of investors were open to investing in emerging managers.
A good example of one such investor is a fund of hedge funds located in Asia. Currently, the firm is looking for emerging managers running niche sector-specific funds. It believes that emerging managers often have a specific expertise that they can leverage to provide solid returns in the early stages of a fund.
The reason that emerging managers have historically outperformed more experienced managers comes down to two key factors. First, younger managers have a powerful incentive to outperform their peers and build a solid track record: they want to attract money and build a name for themselves. Second, smaller managers are able to be more nimble; they can get in and out of investments more quickly than larger funds, leading to increased performance and less market lag. Based on a report by HFR Asset Management, “…funds in their early years tend to outperform funds in their later years, with the most significant outperformance occurring in the first 12 months of operation. Volatility remains constant, resulting in higher risk-adjusted returns.”
As the hedge fund industry grows, emerging managers will continue to have a strong presence. It will be on the shoulders of investors to select the right emerging managers to minimize the risks associated with newer managers, and invest in those that are able to use their expertise to outperform their counterparts in the early years of their funds.