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Two different types of hedge funds

Hedge funds are still attracting a lot of attention from investors and advisers. In this feature Philip Macalister looks at the two different types of funds on offer in the market.

Wednesday, February 20th 2002, 7:55AM

by Philip Macalister

Hedge funds are still attracting a lot of interest from investors and advisers in New Zealand, however there are two quite different types of funds on offer.

In one camp are the pure hedge plays such as Tower's GAM Multi-Trading fund, a wholesale Australian unit trust from AXA, and FGI Asset Management's fund. In the other camp are the range of funds offered by OM Strategic and Macquarie.

One of the defining features of these two groups is that the latter also offer investors some sort of capital guarantee or protection.

Macquarie International Capital Advisers associate director Jonathan Hall says wrapping a capital guarantee up with a hedge fund product isn't the standard way these sorts of investments are sold throughout the world, however they have been used in other countries outside of Australia and New Zealand.

He says a bundled product like this isn't something an institutional or more sophisticated investor would use, rather it's designed for the 'Mum and Dad' type investor who doesn't know too much about hedge funds and wants a comfort blanket.

In fact he admits that from an investment point of view there is not much of a case for a capital guarantee.

The biggest drawbacks are that it has a cost and it reduces the amount of money which is actually allocated to hedge funds. On the plus side it adds comfort, and also reduces the volatility of the investment.

Hall says "people don't understand the mechanics of how a hedge fund can work."

They appear to be complex, are often based overseas and are "not the most transparent things in the world."

These issues, combined with the fact that people don't have time to research hedge funds fully, are the reasons for capital guarantees, he says.

"They provide a little bit of insurance and peace of mind."

FundSource executive chairman David van Schaardenburg says putting a capital guarantee into a hedge fund is like putting two investments from either end of the risk spectrum into one fund.

He says that can appear odd.

One of the things investors need to do is work out what the cost of the guarantee, or protection, is. In the case of Macquarie's Titan fund it is easy to work out (1.2% annually) as it is clearly disclosed in the investment literature, however it is much harder to establish the price in one of the OM funds.

Van Schaardenburg also ponders the need for a capital guarantee on the basis that a well-designed fund of fund hedge fund (which uses a number of different managers and styles) should, because of the diversity of managers and styles, have a low probability of making a loss.

Diversified Investment Strategies director Norman Stacey, who uses both types of funds, says the capital guarantee is more a marketing exercise than an investment one.

He says if an investor wants a capital guarantee it is probably cheaper to unbundle the investment and do-it-yourself. For instance, instead of allocating, say, $10,000 to a bundled fund an investor could go and put half that allocation into a pure hedge fund, and the balance into an inflation proofed Government bond.

He says the outcome would be the same, yet the cost would be lower.

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