Sweden continues dominance of Nordic hedge fund market – report

Sweden accounts for 69% of hedge funds in the Nordic region, according to the latest annual industry report from Stockholm-based OE Capital.

The company’s third annual report on the regional industry is based on data covering 209 funds with at least five years of activity, with performance and other figures calculated between the end of June 2011 to the end of June 2012.

Over the period, some 37 hedge funds were closed, and six launched. Most of those closed were in the long/short equity strategy space.

Others covered by the report include equity long only, managed futures/CTA, multi-strategy, multi-manager, fixed income, global macro, credit, currency, commodity, energy and event driven.

OE Capital said that the closures were to be expected: the latest report shows that the trend continues of too many funds that are too small to be maintained on a commercial basis.

The media value of assets among Nordic hedge funds has increased, but still remains a lowly SEK356m (€40.7m).

Some 61% of funds covered by the report have less then the equivalent of $100m under management. The market continues to be dominated by a single manager with about 50% of the total AUM of about SEK200bn (€30bn) across the region.

“This means that the closure of unprofitable hedge funds will continue,” the report said.

And regulations such as AIFMD will only increase the burden on hedge fund companies to consolidate, both in terms of strategies and funds, but also in areas such as administration, risk management and compliance.

What has changed over the past year, the report notes, is that the hedge funds that have been launched have done so with more managed capital from the start, and with more staff.

The strategies that have seen the greatest increase in AUM are fixed income and managed futures/CTA.

The attraction of investing in hedge funds is likely to continue, the report suggests, given the evidence such investments can produce far better risk adjusted return than benchmarks.

An investment in the Swedish stock market defined as the Six Return index five years ago has not produced a positive return, while a similar investment in the Nordic index (VINX) would have lost about 20% of its value. But an investment on an equal weighted basis across all the strategies represented in the report would have given a return of 43% over the same period.

Much of this outperformance derives from fixed income and managed futures/CTA returns. These strategies exhibit the highest Sharpe ratios. And all the strategies studied have exhibited a volatility that is less than half that for the Six Return index.

The performances noted as well as the generally early adopter attitude among Nordic institutions for alternative investments leads OE Capital to conclude that they will continue to increase their allocation to hedge funds.

The trend among institutional investors to split up their teams into alpha and beta teams means that there is an ongoing challenge for providers of long/short equity strategies that are not market neutral. This is because such funds may be seen as too alternative for the beta team and too beta for the alpha team, and so risk falling between the cracks, OE Capital said.

Another trend noticed is the maturing of skills within institutions to identify and select hedge funds. Where previously they may have sought out a more broadly diversified fund of hedge funds, today they are more likely to invest in single managers and buy in all or parts of the due diligence on single managers from consultants.

OE Capital said that contrary to consensus this is not because of the higher costs of a fund of hedge funds approach, but more because investors are seeking out specific features from their investments. In turn this increases expectations that multi-manager managers will either become more niche by geography or strategy, or will offer their products to smaller institutions and/or retail customers who still prefer the broader hedge fund exposure they offer.

OE Capital said it had even identified larger pension providers building up their own teams working on alternative strategies rather than seeking allocation through external managers. That said, there are also a number of organisations that have tried this route previously, that have returned to using external managers, having found it difficult to compete with international teams that are continuously developing their organisations to meet investors’ demands and deal with changes in the market.

Looking ahead, OE Capital said it sees a big opportunity for any organisation that is willing to seed new hedge funds. Only one of the four big Nordic banks has maintained any incubator operations. Coupled with the hitherto lack of scandal hitting the industry locally as well as the increasing use of risk budgets rather than traditional asset allocation techniques among institutions, then the outlook for the industry remains positive.

 

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