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Are retail hedge funds a new asset class?

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MoneyMarketing (November 2016)

There are now even more opportunities to diversify your investments and that is through retail  investor hedge funds (RIHFs). We at Laurium Capital, believe that by utilising hedge funds, investors and financial advisers have access to more investment tools. By including an allocation, hedge funds should improve the risk return profile of the overall portfolio.

SA’s hedge funds have had a sound performance so far. According to HedgeNews Africa, long short equity funds have given an annual return of 10.9% compared with 9.7% return from the domestic equity unit trusts. To put that into perspective, the clients and financial advisers through their platforms.

While there are many different hedge strategies, let’s look at Laurium Long Short Fund was launched on 1 August 2008, and has had an annual return net of fees of 13.0% till the end of August 2016, an eight- year time period. The JSE All Share total return during this period was 11.5%. Therefore the Laurium Long Short Fund has managed to outperform the JSE All Share total return, but importantly at 50% of the volatility. An additional 1.5% total return, at half the risk, over eight years.

Regulations were amended last year and from April 2015 hedge funds were classified as collective investment  schemes. Due to the new regulations, retail investors can now invest in hedge fund portfolios  through the same structures used in the unit trust space. The big opportunity for hedge fund managers will be when the Linked Investment Service Providers (LISPs) make the Retail Investor Hedge Funds (RIHFs) available to direct the Long Short Equity strategy, which makes up 61.6% of the total industry, according to the latest Novare Hedge Fund Survey 2016.

Long Short Equity Strategies Funds aim to generate tive returns by being simultaneously long and short in the equity market. Market risk is reduced while company- specific risk is retained. The majority of local equity long/ short funds tend to be long biased. This investing strategy takes long positions in stocks that are expected to appreciate and short positions in stocks that are expected to decline.

A long/short equity strategy seeks to minimise market exposure, while profiting from stock gains in the long positions and price declines in the short positions. 

Long Position

The buying of stock with the expectation that the asset will increase in value.

For example – an owner of shares X is said to be ‘long X’ or has a long position in share X. He buys 10 shares of X at R100 per share, with expectation that the shares will rise in value.

Total Investment = R100 x  10  = R1000

Share price rises to R120 per share Portfolio Value = R120 x 10 = R1200

Profit =  R1200 R1000 = R200 / R20 per share

Short Position

The sale of a borrowed stock with the expectation that the asset will decrease in value.

For example – if a manager borrows and sells share Y,

he is said to be ‘short Y’. He borrows 10 shares of Y and sells on the open market

at R100 per share, with the expectation that the shares will fall in value.

Total Investment = R100 x 10 = R1000

Share price falls to R90 per share Portfolio Value = R90 x 10 = R900

Profit = R1000 – R900 = R100 / R10 per share

Leverage

When using leverage, an investor amplifies the risk and potential reward of his portfolio. It is important to understand the amount of leverage each long short strategy applies, as this is a good indication of the risk associated with each fund. The maximum gross exposure RIHFs are allowed to take is 200%. The Laurium Long Short fund has, over eight years, had an average gross exposure of 143% (Long positions Short positions). Therefore leverage of 43%. Average net exposure over the same time has been 53% (long positions    short positions).

Funds aim to generate positive returns by being simultaneously long and short in the equity market

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