Hedge funds launched by first-time managers posted better returns than funds launched by established firms, notes Preqin in its recent report.

Preqin’s report, however, points out that despite such superior returns, institutional investor interest in emerging managers continues to decline.

Emerging hedge funds post higher returns with greater volatility

According to the Preqin report, the emerging market long/short fund launched since 2007 delivered annualized net returns of 8.80% in the first three years of trading on average, while the newly-launched funds managed by established firms could generate 5.38% only. However, the first-time funds exhibited more volatility than funds managed by experienced firms.

Preqin’s report points out that there has been an overall reduction in appetite for emerging managers among institutional hedge fund investors since 2012. As can be observed from the following graph, 38% of investors have expressed an interest in investing in first-time funds, compared to 42% in 2012. This corroborates the view that investors are continuing to move towards investing with more established fund managers as they often perceive safety in numbers and these larger funds as less risky.

Institutional Investors and Fund Type Hedge fund

According to the Preqin report, 71% of investors require at least three years’ track record before considering a hedge fund manager.

As far as required assets under management is concerned, the proportion of investors willing to consider funds with less than $500 million in assets has remained relatively constant at 75%. Preqin’s report notes this trend suggests that the majority of investors are continuing to consider investments in smaller funds despite requiring a substantial track record.

Emerging managers are targeted by fund of hedge fund managers

Emerging managers are most commonly targeted by fund of hedge funds managers, with 73% of these investors tracked by Preqin interested in such funds, followed by asset managers and family offices with 46% and 43% respectively. The following graph highlights this trend:

Institutional investors and investor type

In terms of region, North America-based investors have previously been prominent in investing in emerging managers. However, the proportion of these investors willing to invest in such funds has dropped to 41% from 50% in 2012. The following graph elucidates institutional investor attitudes towards emerging markets by investor locations:

Institutional investors and locations

Preqin’s report points out that hedge funds managed by emerging managers can be attractive to institutional investors as such funds can offer the potential for greater returns, are often more nimble and can take advantage of a wider set of opportunities or offer a more specialized investment approach. The report also notes newer funds may also be more willing to negotiate fund terms in a bid to attract investment.