The European hedge fund industry has experienced major changes over recent years, in part due to the development of UCITS and AIFMD regulations. The introduction of UCITS has broadened the choice of entrance methods into hedge funds available to investors. The structure was designed as a regulatory framework to make it possible to market an investment vehicle around the EU, regardless of its domicile, with limitations such as liquidity requirements, restrictions upon instruments traded and greater transparency of holdings.
As shown in the chart above, 29% of Europe-based wealth managers that invest in hedge funds are investors in UCITS. The structure has allowed wealth managers to make a more familiar and simple entrance into the complex hedge fund industry, offering a higher level of investor protection. Of those that include UCITS as a method of hedge fund investing, 42.7% make only direct investments, 11.7% invest exclusively in funds of funds, with the remaining 45.6% investing both directly and through funds of funds.
The fee structure of UCITS also appeals to investors, who are increasingly concerned with lower fees. The Preqin Investor Outlook: Alternative Assets, H2 2015 revealed that 36% of hedge fund investors frequently decide not to invest in a fund due to its fees. Preqin’s Hedge Fund Analyst database shows that the mean management and performance fees of UCITS funds are lower than average; 1.42% and 16.18% respectively, compared to the average of 1.51% and 18.77% for all hedge funds. Furthermore, UCITS funds are typically less volatile than most hedge funds, with a five-year annualized volatility of 4.06%, as of November 2015, compared with 4.79% for all hedge funds; this further demonstrates why UCITS funds appeal to more risk-averse investors. However, these funds also deliver lower risk-adjusted returns. Over a five-year horizon UCITS funds posted an annualized return of 0.14%, lower than the Preqin All-Strategies Hedge Funds benchmark of 0.89%.
Lower volatility, lower fees and greater transparency make UCITS funds an attractive proposition for Europe-based wealth managers; however, traditional commingled structures remain the preferred route to hedge funds for these sophisticated investors. Given concerns surrounding hedge fund fees and recent market turbulence, it will be interesting to see whether more Europe-based wealth managers will begin to invest in UCITS funds in future.