Fund of Funds Investing: A Roadmap to Portfolio Diversification

Chapter 12. New Products

As investors resist direct allocations to hedge funds, and fund of funds look for new ways to invest in hedge funds, several new investment products have been launched during the past several years to entice investors into a low-risk methodology of hedge fund investing. These products include the following:

• 130/30 funds

• Leveraged products

• Principal-protected notes

• Best-idea fund of funds

• Hedge fund replication

• Multi-strategy hedge funds

130/30 FUNDS

First are 130/30 funds, which are expected to have $1 trillion in assets over the next few years and are attracting large, sophisticated investors such as the California Public Employees' Retirement System, the Illinois State Teachers Retirement System, and many other pension funds. The first inducement is a lower level of fees that average around a 1 percent management fee and a small incentive-based fee, substantially lower than the 2 and 20 percent commonly found in single-manager hedge funds. The similarity to hedge funds lies in the use of leverage and shorting. The manager is long 130 percent and short 30 percent for a gross market exposure of 160 percent and a net market exposure of 100 percent. 130/30 is a structure, like 2&20, but not necessarily a strategy. The performance is based on the beta to the relevant index. One of the key ingredients of success in hedge funds is the ability of managers to short as well as to come up with good long ideas. Shorting in 130/30 is merely a by-product of the structure and ...