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Hedge Funds’ Woes Leave Leery Investors

May 16, 1995

Hedge funds, the supposed Ferraris of the money-management world, are sputtering again this year. And more investors are apparently poised to bail out.

Just last Friday, Strategic Asset Management, which specialized in esoteric arbitrage strategies, announced it would liquidate its S.A.M. Global Fund Ltd. after losing nearly 15 percent of clients’ funds this year. The move was prompted by large redemption requests by several institutional investors.

``People are more nervous about preserving capital″ now, says Andrew Davisson, one of the fund’s directors. In particular, S.A.M. Global’s 7.1 percent plunge in March ``created a fair degree of nervousness″ among its participants, he says.

The Bermuda-based fund manager is hardly a fly-by-night operation. At its peak in early 1994, the group managed $300 million, mainly in S.A.M. Global, compared with $130 million today. Unlike many of its rival funds, S.A.M. Global actually made money last year, racking up a gain of 4.1 percent _ much better than the average 8.8 percent loss for the industry as a whole.

S.A.M. Global’s experience is by no means unique. Widespread losses across the industry last year, and heavy redemptions that ensued, caused hedge funds’ total assets to shrivel for the first time ever, according to analysts who track the business. The funds’ 1994 ordeal also shortened investors’ fuses about poor performance. That doesn’t bode well for managers now, given that the funds’ average performance still lags behind even ho-hum market averages.

For instance, ``offshore″ funds for foreign investors _ those funds outside the U.S. that make up the bulk of the industry _ returned a paltry 2.4 percent for the first four months of 1995 on a capital-weighted basis, according to Antoine Bernheim, publisher of the U.S. Offshore Funds Directory.

``That is a pretty bad number,″ Mr. Bernheim says. ``It’s slightly better than Treasury bills, but it’s not worth the fee structure″ investors must put up with to participate in hedge funds. Investors typically pay such managers one-fifth of any gains, plus management fees that average 1 percent of assets a year.

Among the huge bellwether funds, George Soros’s Quantum Fund even failed to match the industry’s sub-par showing. From the start of the year through last week, it registered a 1.7 percent loss, according to Mr. Bernheim. For the same period, Julian Robertson’s Jaguar Fund posted an 8.1 percent gain, while Michael Steinhardt reversed a year-long decline to return just under 5 percent on the two large offshore funds he manages, SP International and Steinhardt Overseas Fund. The funds’ managers declined to comment on their returns.

Meanwhile, a lesser-known Soros Fund, known as Quota, has been a top performer. It returned 38.5 percent so far this year, boosting assets to about $1.2 billion. Market watchers credit Nicholas Roditi, who manages complex currency positions from a small office in a quiet London suburb. Mr. Roditi, a native of Zimbabwe and a farmer by hobby, declined to discuss his success.

Domestic U.S. hedge funds fared scarcely better than their offshore rivals on average, according to an analysis by DeCicco Meredith Associates of Fairfield, Iowa. These funds, limited to 99 investors, had average returns of less than 4 percent for the first four months of 1995. By contrast, all the main U.S. stock-market indexes are up more than 14 percent year-to-date. The Dow Jones World Stock Index is up more than 7 percent.

To some extent, the hedge funds are victims of their own success. For years, they outperformed mutual funds and other investment managers so soundly that investors thought nothing of paying huge premiums to get in on the action. From 1991 to 1993, the number of managers more than doubled, and capital under management quadrupled to about $70 billion, according to several analysts.

But now that markets are more volatile and harder to navigate, the funds are finding that size can be a handicap. Funds are also borrowing less, as rising short-term rates and banks’ reluctance to lend have made terms less generous. Regulators say the funds are taking smaller positions, a sign of greater conservatism that could curb losses _ and also returns _ in the future. Still, when markets jam, even small positions become tough to unload.

``Size is becoming more of an impediment to performance,″ says Mr. Bernheim. He and other market analysts think that inability to maneuver has been exacerbated by a general decline in trading volume across many markets.

Under the circumstances, some analysts are wondering out loud how much longer investors will hang on. ``It will depend on performance this year,″ says Marianne Johnson of Johnson Custom Strategies Inc.

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