Crédit Agricole Asset Management Alternative Investments champions the benefits of funds of hedge funds, outlining its approach to asset allocation and manager selection
Alternative investments are a great source of returns in many different market scenarios. The growing complexity of the hedge fund universe and the higher barriers to entry make it increasingly difficult for investors to invest directly. Funds of funds have a genuine role to play by providing strategic allocation, investment diversification, and access to the best hedge funds with lower entry ticket. Funds of hedge funds combine the search for alpha, or absolute returns, with a tactical allocation, leading to better risk control.
Crédit Agricole Asset Management Alternative Investments (CAAM AI) is a leading global player in alternative investments with more than 14 years' experience and over $16.5bn under management, as of March 2006, in funds of hedge funds. As one of the top 13 funds of funds managers worldwide (InvestHedge, December 2005), CAAM AI distinguishes itself in an increasingly crowded field by combining the advantages of a dynamic management structure and the stability of the Crédit Agricole Group. Our stable investor base and the back-up from Crédit Agricole Group have enabled us to secure access to some of the most prestigious hedge funds, most of which are closed to new investors.
1. Funds of hedge funds provide absolute returns with low volatility through careful portfolio construction and asset allocation
Funds of funds offer two sources of alpha: the top-down approach to determine the various strategies and the bottom-up approach by selecting the best managers for a particular strategy (Chart 1).
While hedge fund selection is crucial, constructing a quality alternative investment portfolio requires skills and discipline.
A significant part of our Paris-based investment team is dedicated to asset allocation as hedge fund strategies cover a broad range of strategies, styles and instruments. Their aim is to optimise the allocation between the different alternative strategies to achieve two objectives: maximise returns and minimise risk. Their process is based on three criteria:
An exhaustive optimisation using all correlation matrices for all strategies involved to establish the global investment guidelines for each fund of hedge funds. Hence broad guidelines will for example be 10% to 20% on primary hedge fund strategies and 0% to 10% on secondary hedge fund strategies.
An in-depth macroeconomic analysis and strategy-specific forecasts to achieve an optimal portfolio that responds to return and risk objectives. It is a continuing process that not only includes permanent analysis of the macroeconomic conditions and the investment strategies to which allocations have been made, but also relies on a strategic asset allocation that is reviewed on a yearly basis (around 10% within the broad investment guidelines).
A dynamic tactical allocation in accordance with market trends and macroeconomic evolution. On a monthly basis, tactical allocation and the degree of diversification determine the degree of risk, with each alternative strategy having its own volatility, cross-correlation to other strategies and distribution pattern (around 5% within the strategic allocation parameters).
Since alternative strategies are uncorrelated, the risk of a portfolio can be lowered from the addition of different strategies. Consequently, the allocation of such strategies will fine-tune a fund's risk profile, protecting the capital invested. Through their research and risk control, funds of funds add security to the sometimes obscure hedge fund universe providing absolute returns while controlling volatility. At year-end, the investment team assesses the added value derived from asset allocation compared to industry indices.
2. Direct Access to the world's best hedge funds through funds of hedge funds
Contrary to single hedge funds with a significant barrier to entry, funds of funds give access to a large spectrum of hedge funds. The role of funds of hedge funds is to enable investors to benefit from the most talented hedge fund managers within each strategy.
Finding talented hedge fund managers requires skill and convincing them to accept your investment is equally challenging because of capacity constraints. Many good hedge funds tend to have long lock-up periods and high minimum investments, as they often need certain stability of assets to invest in sometimes less liquid markets or in strategies that require time to unfold. Also, many hedge funds are closed to new investors.
Funds of hedge funds operate much closer to the hedge funds industry and carry out ongoing due diligence and analysis of the hedge funds marketplace. In doing so, they are in the best position to understand the various managers and strategies, and avoid selecting funds that for example, lose their key people, who suffer unexplained negative performances.
Our offices in London and Chicago are focused exclusively on selecting hedge funds. The investment team benefits from their proximity, both physically and culturally to the traditional centre of the hedge fund industry in the US, as well as to increasingly important European and Asian hedge fund markets. The investment team maintains close contact with more than 750 manager contacts each year to select the best funds in their class. Our critical size and long-existing relationships with hedge fund managers enables us to overcome entry barriers and offer higher liquidity and lower minimum investments to investors. Qualitative analysis of managers and quantitative filters enable the investment committee to target the best performers in each peer group, maximising performance returns (Chart 2).
3. Funds of hedge funds offered by CAAM AI
CAAM AI has developed a real expertise (a highly successful and completely transparent track record since 1992 - among the longest and most consistent in the industry) in constructing low volatility and constant return portfolios. Lowering the volatility and yet maintaining attractive returns is the speciality of the portfolio construction team, which concentrates its research on correlation between strategies and differing styles of hedge funds.
Our core product range, well-known as the Green Way Funds, is based on two fund of hedge fund lines:
Diversified funds of funds invested across the entire range of alternative strategies and styles,
Specialised funds of funds invested in a single strategy or a small group of strategies, such as arbitrage, long/short equity, distressed securities, high yield bonds, macro global and systematic trading.
To meet specific client risk/return profiles or to accommodate certain legal/domicile requirements, CAAM AI has the expertise necessary to customise dedicated funds of hedge funds and create structured products with various guarantees and liquidity features.
Contact: CAAM AI Client Servicing
Email: [email protected]
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