Institutional investors are increasingly allocating their hedge fund assets to managers that have been in business for at least two years, according to a survey of clients’ hedge fund side letters by Seward & Kissel LLP.
The report also found that among institutional investors, corporate pension funds and government investors only allocated to mature (defined as those in business for at least two years) managers.
The law firm released its eighth annual study of important trends in the hedge fund community by examining side letters negotiated by the firm’s hedge fund clients from July 1, 2022, through June 30, 2023.
“The Seward & Kissel 2022/23 Hedge Fund Side Letter Study demonstrates strategic choices being made by hedge fund managers and their investor base alike,” said Kevin Neubauer, a partner in the investment management group at Seward & Kissel, in a statement provided to CIO.
The study found an increase in the representation of mature managers to 84%, up from 78% in 2021-22 and 74% in 2019-20. The representation of newer managers hit a low point in the 2022-23 survey year at 16%, down from 22% in the last survey and from 26% at its height in 2019-20.
The decline in the representation of newer managers was attributed to the difficult fundraising environment, the firm concluded.
The largest category of side letter investors surveyed by the firm were fund-of-funds, at 54% of all side letter investors, up from 51% in last year’s study. Endowments and government plans each made up 12% of side letter investors. High-net-worth individuals and family offices ranked fourth, at 8%. Nonprofit institutions and corporate pension plans were last with 7% each.
Seward & Kissel found that 60% of newer fund managers (businesses less than two years old) had side letter agreements with fund-of-funds, and 20% had them with high-net-worth individuals and family offices. According to the study, government plans made the largest investments, at more than $10 million.
Across the firm’s clients, the AUM of mature managers increased to $7 billion from $4 billion year-over-year, while the AUM of newer managers declined to $170 million this year from $210 million in 2021-22.
According to the firm, the number of side letter agreements has decreased due to the increase in representation by mature managers, who are less likely to negotiate business terms. There was a corresponding decrease in business terms, including most-favored-nation clauses, fee discounts and capacity rights, for more inexperienced managers.
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Tags: Hedge Fund Side Letter Study, Hedge Funds, Kevin Neubauer, Seward & Kissel