Alternative Investments: Investing By Numbers

Alternative Investments: Investing By Numbers

What’s in the future for alternative investments asset management? A new publication from Ernst & Young, London, contends that allocations to alternative investments and are “robust,” but that there is an important shift underway in favor of private equity and at the expense of hedge funds.

In 2018, 40% of alternative investment capital was in hedge funds. Another 20% of alternatives AUM went to real estate funds; 18% to private equity; and leaving 22% to the amorphous category called “other.”

In 2019, only 33% of AUM is in hedge funds. Private equity has now passed real estate funds for second place (25% and 23%, respectively), and only 19% goes to “other.”

PE managers “have every reason to be bullish.” And they are. Three out of four PE managers that are raising a fund in 2020 say that it will be bigger than the last one they raised.

One point that both hedge funds and PE funds have in common is that they both are busily diversifying their product offerings. This involves offering co-investment vehicles, illiquid credit, real assets, and real estate. For example, 58% of hedge fund managers now offer or plan to offer co-investment vehicles. More than one third (37%) of hedge funds offer an illiquid credit product.

Such diversification creates challenges “from an operations, technology, talent, and investor acceptance perspective,” say the authors of the report: Jun Li and Mike Lo Parrino.

Diversity and Youth

The authors also discuss diversity targets. Only 30% of alternative funds have set such targets. PE funds are setting the pace there, with 48% of PE funds have set diversity targets, compared to just 15% of hedge funds.

Set aside the issue of target setting. Who is working in the front office?  A little more than half (53%) of PE firms represent themselves as having between 10% and 30% of women employees in the front office. The corresponding number for hedge funds is just 35%.

What about young talent? This is an issue both for diversity reasons (a new generation may well have valuably different perspectives) and because the industry doesn’t want to age itself out of existence, The good news here is that asset managers report they don’t have much difficulty attracting qualified young people to work for them. The bad news is that the young change jobs a lot, so retention can be an issue. In order to approve recruitment, and especially retention, of the young, managers are improving office amenities, relaxing dress codes, and making it easier for employees to work from home.

Those moves, frankly, seem cosmetic. These authors believe there are other more substantive moves that might help—they mention family leave, and health and wellness policies. But few employers have made changes in these areas “outside of the largest managers.”

Investments in Technology

Both PE and hedge fund firms have made significant investments in technology of late, the report says. The largest chunk of the capital has been allocated to technology, with much of it spent on “compliance and regulatory reporting,” followed by money for tech in portfolio management, fund accounting, and investor servicing.

Investors haven’t been reducing their payrolls as a result of this technology spending. Nonetheless, 51% of hedge funds report “success in enhancing middle and back-office processes and technology.”

Since technology results in the internal generation of databases, the discussion of investments in tech segues easily here into a related subject: leveraging internally generated data for trading purposes. Hedge funds are in the lead when it comes to a strategy for using internal data. Well more than half (58%) of the hedge fund managers say they have such a plan. Only 44% of PE managers say the same.

On the investor side, only 11% of investors do not believe that it is important for their managers to use alternative data and artificial intelligence to support the process of investing.

Here’s a final thought, and a final number, from Jun Li and Mike Lo Parrino: only 39% of investors believe that their managers have adequate cybersecurity processes in place already to protect their assets.

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