Hedge Funds: Diversification is Futile

Author says hedge funds' average return is less than t-bills.

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broken eggs2Investors should allocate no more than 1 to 2 per cent of a diversified portfolio to hedge funds, according to Simon Lack, former head of JP Morgan’s hedge fund seeding operations and author of the book The Hedge Fund Miracle. Lack’s comments appeared on Top 1000 Funds last week, where he also added that hedge fund investors need to be good at picking managers, because the “average return is less than Treasury Bills.” Diversification then is futile – “the most plausible way to invest in hedge funds is to have one or two managers that you know inside and out.” Lack’s research also finds that of the funds in the top 40 per cent of performers in any one year, only 7 per cent are able to stay in that category every year.

Lack also calls the hedge fund industry on their lack of transparency, noting that while equity investors can talk about the information ratio of managers and tracking error, hedge fund investors have few if any similar tools. There is simply no data, he argues.

“There are definitely happy clients and there are definitely some good hedge funds; it is just that the aggregate story has not been a good one,” Lack says.

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