Sovereign wealth funds are extraordinary in the institutional investor space due to the relative magnitude of their assets under management, along with their higher risk profiles and longer investment horizons. In recent years this investor group has become increasingly significant in the hedge fund investor universe as a growing number of these institutions have made maiden forays into the asset class. Approximately 35% of sovereign wealth funds tracked by Preqin are currently active in the hedge fund asset class and this means that the total assets under management of sovereign wealth funds that invest in hedge funds is now over $3.7tn.
Sovereign wealth funds can be found all over the world, but are particularly prevalent in certain areas. Twenty-eight percent of sovereign wealth funds investing in hedge funds are based in the Middle East, with a further 40% split evenly between North America and the Far East. Every sovereign wealth fund that invests in hedge funds has indicated that it will seek exposure to the asset class on a global scale. The most targeted geographical areas in terms of investment exposure are North America, targeted by 70% of sovereign wealth funds, and emerging markets, targeted by 65% of the investor group.
The majority of sovereign wealth funds that do invest in hedge funds are willing to invest in a wide range of hedge fund strategies in order to diversify their investment portfolios. Nevertheless, these investors tend to have a preference for more straightforward strategies, such as long/short equity and macro. Fifty-seven percent of sovereign wealth funds that invest in hedge funds include one or both of these strategies in their portfolios. Other heavily utilized strategies include event driven (targeted by 43% of the investor group), distressed (39%), equity market neutral (35%) and relative value arbitrage (35%).
In terms of structural preferences, most of the sovereign wealth funds investing in hedge funds (59%) do so both directly and via funds of hedge funds, showing that many still desire the experience and diversification offered by multi-manager funds, despite the extra layer of fees. Additionally, a significant proportion of them (45%) invest through managed account structures, compared to just 10% of institutional hedge fund investors as a whole. This suggests that many sovereign wealth funds also favour the transparency and greater degree of control over their hedge fund investments that managed account structures can offer.
Sovereign wealth funds’ growing appetite for hedge funds is good news for hedge fund managers across the spectrum given the vast breadth of their geographical strategies and structural investment preferences and the huge amount of capital at their disposal. Conversely, this diversity among the investor group as a whole means it is vital that managers really understand individual funds’ specific predictions with regard to their hedge fund investments, if they are to convince them to hand over their capital.