Hedge Fund Growth to Persist Says Fitch

Two large U.S. public pension plans, California Pension Employees’ Retirement System’s (CalPERS) and San Francisco Employees’ Retirement System (SFERS), recently made decisions to pull back from hedge fund investments (see “CalPERS Eliminates Hedge Fund Program”). In addition, hedge fund growth has slowed over the past several years. However, Fitch says the withdrawals are not representative of broader sector trends, and it predicts hedge fund AUM to increase from the 2013 year-end level of $2.6 trillion, attributing the growth to market appreciation and inflows outpacing redemptions.

Fitch highlights data from Preqin that reveals improvements in hedge fund investment allocations by public pensions since 2010.The continued allocation of hedge fund investments signifies investors’ belief that hedge fund investments can often deliver competitive returns net of fees, while providing a degree of downside protection and uncorrelated return during periods of stress, according to Fitch.

Over the past decade and a half hedge funds have delivered steadier performance relative to the overall market during bear markets, specifically in 2000, 2002, and 2008. However, protection is provided at the expense of limited upside during bull markets, as was seen in 2003, 2009, and 2013. Fitch reports hedge funds could potentially benefit from a material correction in the markets, if their performance avoids surprises and delivers uncorrelated performance with the market correction.

In light of the most recent withdrawals by CalPERS and SFERS, Fitch expects public pension funds to at least revisit the topic of hedge fund investing to demonstrate their fiduciary responsibilities to plan participants.