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Benedicte Gravrand reports from the GAIM 2008 Fund of Funds conference in Geneva.
Construct a replication portfolio and compare to your FoHFs
Narayan Naik, professor of finance at the London Business School and director at BNP Paribas Hedge Fund Centre, suggested benchmarking FoHFs against do-it-yourself alternative beta benchmarks would be a good idea.
2/20 and the 1/10 fees are calculated on total returns, where beta and alpha are not distinguished. So why not pay beta fees for beta returns and alpha fees for alpha returns? “It’s about consenting adults,” he said. He observed that in the last 16 months, no FoHFs had achieved positive alpha.
When a constructing hedge fund strategy replication portfolio, don’t look for spurious correlations: identify the right target and select a set of liquid investible factors based on academic research. The replication strategy manager should, in the end, be seen as an auto-pilot.
Replication is useful for benchmarking your FoHFs manager. That way, the absolute return industry can become a relative return industry (relative to your replication product).
There is some competition between CTAs and replicators as some have a similar approach. Some replication products short through futures contracts.
Replication products are not a new class of hedge funds. They are an access to hedge fund returns, a new “asset class” (for lack of a better term) with differentiations.
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