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Blurring the boundaries between hedge funds and private equity within investor portfolios

Allocators are blurring the boundaries between the hedge fund and private equity sides of their portfolios, as once strictly segmented alternatives buckets begin to blend, according to investment firm Cambridge Associates.

Dan Aylott, Managing Director and Head of European Private Investments, at Cambridge Associates says that the distinction between hedge funds and private equity has become an increasingly “grey area”.

“Those parts of a portfolio are less distinct today than they were. Within Cambridge Associates, hedge funds don’t compete against private equity for the best ideas or vice versa, there’s a lot more overlap,” he commented.

The palette mixing of hedge and PE, has chiefly benefited those in the more illiquid private markets space, with some hedge fund management firms looking to broaden their appeal with the launch of more illiquid products.

Trudi Boardman, Hedge Fund Specialist at Cambridge Associates, said that although allocations to hedge funds had been broadly static overall, recent outflows from some hedge fund allocations have been directed into illiquid diversifiers or private credit opportunities.

She commented: “This makes a lot of sense for some strategies when looking at the underlying liquidity of the positions or the duration of the trades, it’s preferable for there to be a better asset liability match.

“It’s been a natural evolution of the industry as managers sought a closer match between their investments and fund liquidity terms while investors have looked at credit strategies and realised that they are actually better suited to sitting in draw down structures, rather than traditional hedge fund structures and have created allocations in their portfolios to reflect this shift.”

Boardman added that Cambridge Associates have seen many hedge funds launching private credit vehicles, and many hedge fund investors allocating to those private credit vehicles.

Cambridge Associates is an investment firm advising endowments, foundations, pension funds and family offices globally with an AUM of USD47 billion.

Boardman and Aylott advise clients in the EMEA region. Both have seen specific investment strategies
Increase in popularity over the last two years on both the hedge fund and private equity side, and even some new opportunities arise from the pandemic.

Within hedge fund investing, Boardman said many investors have made recent allocations to global macro, lower beta multi strategy and event driven funds. Distressed investing experienced inflows driven by the impact of the pandemic on global economies and markets.

Boardman said: “There was a lot of enthusiasm for distressed investing during this period, but the distressed opportunity set has actually been slower to emerge than managers and investors were expecting due to  swift central bank action, the backstopping of hard-hit industries and the roll-out of effective Covid vaccines. Although results have been good over the last 15 months, they remain more compressed than initially expected.”

Aylott commented that he hasn’t seen any pulling back in terms of appetite for private market strategies. “If anything, we’ve seen an increased appetite as returns for private equity and venture capital have continued to be strong and robust,” he added.

He said that Cambridge Associates has a history of focusing on the lower middle and middle market where valuation and pricing is a little more attractive – and especially on sector-focused funds such as healthcare and technology, where managers have a deep domain expertise in the areas they focus on.

“These strategies have proven to be resilient and even benefitted from what’s happened in the last 18 months, and we think going forward they’re going to endure,” he added.

Cambridge Associate’s clients have demonstrated an increased interest in investing in venture and growth capital, especially in European managers, despite the challenges that come with accessing these smaller fund sizes. Aylott said that from his experience, clients who are able to invest smaller amounts, often with smaller portfolios and programmes, are more willing to allocate to venture capital.

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