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Hedge fund shakeout?

Hedge fund shakeout? Some management consultants seem to have the same strategic insight into hedge funds as they did with Enron, mobile phones or "advising" Ebay with respect to Google's business prospects. Their recent assessment of the asset management industry in 2010 will prove as useful as the hubris they hawked around investment banks the past decade. Management consultancy clients need to insist on performance fees; if the "advice" doesn't work, don't pay. Maybe Ebay, AT&T and Enron stockholders should ask for their money back.

Does size matter? Larger firms will do better than small firms? Gathering assets maybe but not performance. EVERY big hedge fund started out as a small fund. It is well established that nimbler, newer hedge funds perform better. Boutique specialism is more sought after than generic warehouses. Management consultants advise large financial institutions to build up their high net worth/private banking businesses yet I have never met a wealthy individual satisfied with the "service" they receive from financial supermarkets. Rich people shop at quality boutiques and eat at the best restaurants and it is investment boutiques that best serve their requirements.

That the largest asset managers have doubled AUM in 5 years is NOT evidence of the big firms winning. If you give anyone competent $500 billion with NO further asset raising, several years from now they will have $1 trillion AUM purely through internally generated investment returns. Surely more interesting are boutique funds that had $1 million of personal, friends and family money a few years ago and now manage $500 million. That is the real story and that is where the sweet spot of the hedge fund industry lies assuming you desire FUTURE alpha and performance.

Fee compression is constantly "about" to hit the hedge fund industry yet people have been saying that for the last 15 years during which time, fees have gone from a typical 1/20 to 2/20 and up. Fees will remain the same or HIGHER for hedge funds that deliver what they promise to investors. Those that fail to deliver will be gone and reducing fees is not going to save them. Alpha and skill are rare; good hedge fund fees are already low given the value of the product.

As for the hedge fund shake out by 2010, thousands of hedge funds WILL indeed cease to exist. Many will disappear because the hedge fund manager has made enough to retire and has better things to do with their lives. Others will shut down because they did not make the grade. However, several thousand NEW hedge funds will have been started, more than replacing all those dead funds. It will not be a SHAKE OUT but a SHAKE UP.

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