From the June 2006 issue of Investment Advisor • Subscribe!

Optimism Down, Hedge Inflows Up

In early May, the research organization Spectrem Group said that the investment outlook traced by its "affluent index" (based on a survey of households with $500,000 or more in assets) lost three points in April, on top of a three-point loss in March. The loss drops the index from a "mildly bullish" reading in February into the neutral zone on Spectrem's scale.

"Millionaires continued to lose optimism in the investment environment in April, following a decline the month before that ended a four-month bullish run," said George H. Walper Jr., president of Spectrem, in a statement May 3. "The April drop came in a month that saw gasoline prices rise across the country, surpassing $3 a gallon in some areas."

Responding to an open-ended question about the biggest threat to household financial goals, the largest group of the affluent cited stock market conditions (14%), then the economic environment (8%), retirement (8%), low investment returns (6%), household cash flow (5%), household income (4%), housing and real estate (4%) and job security (1%). There was no mention of gasoline prices among either of the two groups tracked, although Walper said he believes that is the real cause of the April decline.

Despite these economic strains, the hedge fund universe has rebounded. After dipping into negative territory in the fourth quarter of 2005, hedge fund net asset flows turned positive during the first three months of 2006, according to figures compiled by Tremont Capital Management Inc.

Across all hedge fund styles tracked by Tremont, assets grew by 3.18%. Based on that figure, and Tremont's fourth quarter's estimated industry size of $1.06 trillion, hedge funds at the end of the first quarter held roughly $1.09 trillion in assets.

The biggest winners in the first quarter were emerging markets managers, who saw inflows increase their aggregate assets by nearly 8%, or about $4.4 billion.

Managed futures managers saw asset inflows increase their assets by 4.73% in the first quarter, while long/short equity managers grew assets by 4.37%, according to Tremont. Global macro managers' assets increased 4.04%. Recent trends in equities and commodities markets may signal that global macro and managed futures styles may be experiencing the same kinds of asset growth emerging markets have seen, according to Tremont's analysis.

"As investors worry about the stability of these flows, and the broader imbalances of the global economic and political landscape, assets have gravitated towards global macro and managed futures, possibly seeking some diversification, yet they have invested primarily in equity and commodities themes," said Cynthia Nicoll, Tremont Capital's chief investment officer.

"While long/short equity and event driven managers have benefited globally from the emergence of strong merger and acquisition activity, access to these opportunities has come predominantly in directionally biased equity trades rather than the risk arbitrage trades," Nicoll said. "And, as the commodities story is inextricably linked to the emerging markets theme, correlations exist here as well."

Tremont's quarterly asset flows report is derived from an asset base of $895 billion in funds from which Tremont collects data.

Jeff Joseph is managing director of Rydex Capital Partners and also serves on the advisory board of HedgeWorld (www.hedgeworld.com), a global provider of hedge fund information and investment products.

Everyone has some questions about hedge funds. Feel free to send yours to Jeff Joseph by e-mail at jjoseph@rydexfunds.com.

For information about HedgeWorld's services, send e-mail to: inquiry@hedgeworld.com.

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