NEW YORK (Reuters) - For years, running a hedge fund was the road to riches, but with the giddy years of double-digit returns at an end, prospects for profits look decidedly more gloomy, top managers and investors say.
When famed short-seller James Chanos launched his Kynikos Associates more than two dozen years ago, he had just $16 million to begin trading. But the manager of a fund that now has $6 billion in assets said those days are long gone.
“Now, you can’t do that,” Chanos said at this week’s Reuters Investment Outlook Summit. “If you can’t raise nine figures right out of the box, it is going to be very difficult, and you won’t attract institutional money,” he said.
Jane Buchan, the chief executive of roughly $16 billion Pacific Altnerative Asset Management who helps state pension funds and other prominent clients select hedge funds to invest in, was even more blunt. “It is going to be a horrible environment for starting a hedge fund now,” she said this week in New York.
The reason for the current gloomy atmosphere is simple -- returns are off. The days in which managers could count on generating high double-digit returns to justify their high fees may be over, several speakers said.
This year is shaping up as a particularly poor one for the $2 trillion hedge fund industry, with some of the best-known managers in the red. The average hedge fund is down roughly 4.37 percent through November, according to Hedge Fund Research’s broadest industry index.
The Standard & Poor's 500 .SPX, by contrast, is flat for the year.
Yet, many hedge fund managers continue to charge a 2 percent asset management fee in addition to skimming off 20 percent of any profits. At some big funds, the fee structure is even higher.
“Investors have to look at the fees versus the value,” Buchan said.
She said at some point investors will start to question whether the managers are generating enough return to justify the high fees.
Chanos said he’s a little surprised investors haven’t rebelled sooner over the industry’s infamous 2-and-20 fee structure.
“You would have thought that competitive pressures would have hit a lot earlier,” Chanos said, adding that collecting high fees “gets harder to justify in a lower return environment.”
If institutional investors start to press back more on fees, some see a time when managers of famous funds may choose to throw in the towel. That’s especially if overall returns don’t get back to the pre-crisis glory days.
“The hedge fund industry is looking more like the sports industry where players have a limited time to be at the top of their game and earn a lot of money,” PAAMCO’s Buchan said.
For now institutional investors appear to be sticking with hedge funds in part because returns on bonds and stocks aren’t great either. Chanos said hedge funds still represent the best place for investors to generate alpha, or higher than normal returns.
On Tuesday, the Massachusetts state pension fund hired 10 hedge fund managers, including Pershing Square’s William Ackman and Highfields’ Jonathon Jacobson, to manage about $245 million. For the most part, Massachusetts stuck with big name managers with long track records, proving how difficult it is for start-ups to get a seat at the table.
“We are still in this big-is-beautiful world where investors are veering toward the large hedge funds that seem safe no matter how much money they have lost,” said Shawn Kravetz, president and founder of Esplanade Capital, a small Boston-based fund that concentrates on retail.
Reporting by Svea Herbst-Bayliss; Editing by Jennifer Ablan and Matthew Goldstein