New market for industry
Strict regulations and a conservative approach should help allay investors’ fears
Governance, oversight and risk management are key words SA’s hedge fund industry are emphasising as it considers its prospects in the light of new regulations that allow it to enter the retail investment space.
Hedge funds are relatively new in SA, having first appeared in 2002 with the fund managers restricted to a niche market made up of institutional and high net-worth investors. Following reclassification under the Collective Investment Schemes Control Act (Cisca), they are keen to apply their expertise in the broader market.
“When the current Cisca was drawn up in the 1990s it was already envisaged that hedge funds would fall under the act,” says Ian Hamilton, MD of IDS. “There is a need for investors to have a wider choice of investments that can offer diversity in portfolios.”
Since the change was made last year, the Financial Services Board says, it has received applications from 21 management companies representing 24 qualified investor schemes and 10 retail hedge fund schemes. Thus far, 12 management companies representing 14 qualified funds and seven retail schemes have been approved.
Making the transition to the new environment requires the implementation of rigorous controls to protect investors who, for the most part, may be unfamiliar with the strategies or risks that are involved.
One of the requirements, which is in line with the approach taken in Europe, is that a fund manager cannot also be the administrator of a fund.
This is a space occupied by IDS, which has established IDS Manco to offer a platform through which fund managers gain access to the operational infrastructure that allows them to focus on doing what they do best — managing funds.
As the nominated management company, IDS is responsible for the proper management of the funds. With this comes the risk if the funds are not properly managed, which heightens its focus on risk management.
These are important considerations for investors who are thinking of diversification of their portfolios out of traditional asset classes. Despite this attraction, the industry may initially have to overcome negative connotations as a result of spectacular hedge fund blowouts internationally.
“There are definitely misconceptions about hedge funds, especially those based in offshore markets,” says Eugene Visagie, head of hedge fund investments, Novare.
“In SA, it is a conservative market because the bulk of assets have been from the institutional market, which is focused more on capital preservation.
“There is, however, a very well-educated financial market locally that is interested in the hedge fund space.
“These funds are also very well regulated and offer an organised investment style.”
Anchor Capital’s head of alternative investments, Glen Baker, is equally upbeat about the industry’s prospects once education and comfort levels rise as more of these retail hedge funds come to market.
“The new regulations form a huge layer of transparency and protection that was previously unavailable because they weren’t regulated. The risk management services the administrator provides are very important to the protection of assets,” he says. “The negative press that hedge funds get is often because of fraud. Occasionally funds have underperformed because of poor investments, but this applies to all funds across the world, not only to hedge funds.”
The tight regulations,
The industry may initially have to overcome negative connotations as a result of spectacular hedge fund blowouts internationally
combined with a generally conservative, capital-preservation investment approach by hedge fund managers to date, should go some way towards allaying investors’ fears.
With the classification of these funds as collective investment schemes, investors now also have greater clarity on the tax implications from investing in these funds.
Investments of three years or longer will be subject to capital gains as opposed to income tax, which Hamilton says could also spur pension money to flow into these funds. He says the retirement industry, while now the biggest investor in hedge funds, has been cautious given the tax uncertainty. The regulated nature of the funds will also go some way towards diminishing previous concerns.
The question is how these specialist hedge fund managers will adapt now that they have a far broader addressable market.
Alexia Kobusch, MD of Nautilus MAP, believes some adjustment may be needed for the hedge funds that intend entering the market directly.
“In the retail space, investors place a lot of trust in their financial advisers while in the qualified space they often meet the manager running their money face to face. So there is a far greater emphasis on demonstrating credibility and integrity. It will be interesting if new fund managers come into the market that have not experienced that.”
As for expecting greater competition from traditional fund managers making a play on the retail hedge fund space, she is more sceptical.
“To put this into perspective, there is R1.2 trillion invested in unit trusts and R60bn in hedge funds. Unless managers in the traditional space feel it is financially worthwhile to focus on the retail hedge fund space we are probably not going to see a transition.
“It may seem appealing to move into the hedge fund space because it appears ‘sexier’, so an element of ego may come into it, but it is a difficult transition to make,” she says.
Eugene Visagie … there are misconceptions about hedge funds