04/24/2013

M&A Shuffles Roster of Big Funds of Funds

Some of the biggest fund-of-funds operators grew substantially in the past year, even as total assets in multi-manager vehicles remained flat.

Three of the top 10 fund-of-funds shops in Hedge Fund Alert’s annual ranking each added billions of dollars of assets via mergers and acquisitions. They include third-ranked Permal Asset Management, with $23.5 billion in multi-manager vehicles following its acquisition of $6 billion Fauchier Partners (see ranking on Page 5).

Blackstone, which ranks first with $46.1 billion, expanded its multi-manager business by 14% — not through acquisitions, but by building on its reputation as the industry leader. Rounding out the top five are second-ranked UBS ($25.5 billion), fourth-ranked Grosvenor Capital ($22.3 billion) and fifth-ranked Goldman Sachs Hedge Fund Strategies ($18.3 billion).

Financial Risk Management, which ranks seventh with $16.7 billion, swelled after hedge fund giant Man Group bought the $8 billion firm and consolidated its fund-of-funds business under the FRM banner. Meanwhile, ninth-ranked UBP Asset Management grew via its acquisition of $3 billion Nexar.

The fund-of-funds industry is still reeling from the one-two punch of the financial crisis and Bernard Madoff scandal. After peaking at about $800 billion in 2007, total assets in multi-manager vehicles plunged by more than 25%. They’ve since rebounded marginally, but have hovered at $600 billion to $650 billion since 2010, according to Hedge Fund Research.

A more recent threat is a trend among pensions and other large institutional investors to invest directly in multiple hedge funds, rather than rely on funds of funds for diversity. The biggest, most sophisticated multi-manager firms, led by Blackstone, have responded by offering clients customized vehicles — bespoke funds of funds held in separate accounts. For the rest, mergers often represent the best chance of survival.

“The little guys can’t make it on their own, given where funds of funds are going,” said an executive at a large multi-manager operation. “If you can merge or acquire weaker guys with which you have synergies, and you can bring in raw assets and cut costs, that’s a way to show girth.”

Other firms on the top-25 list that pursued deals last year include K2 Advisors, which was bought by Franklin Templeton; Prisma Capital, which is now owned by Kohlberg Kravis Roberts; and Rock Creek Group, which sold a 35% stake to Wells Fargo. Many smaller companies are continuing to jockey for deals.

“Firms around the billion-dollar level are interested in partnering with a larger firm in principle, but often on terms that are unattainable,” said Colette Taylor, a partner at PL Advisors, which advises financial-services firms on mergers and acquisitions.

The starting point for the annual ranking is Hedge Fund Alert’s Manager Database, which tracks SEC-registered investment advisors that run both single-manager and multi-manager vehicles. But the regulatory filings don’t capture large fund-of-funds businesses headquartered outside the U.S. To get a more complete picture of the industry, the newsletter adjusted the totals for some managers based on staff reporting.

One surprising name on the list is 16th-ranked Meritage Group, a San Francisco firm that doesn’t compete for pension mandates. That’s because the firm’s Meritage Fund runs money exclusively for employees of hedge fund giant Renaissance Technologies. Meritage is led by Nathaniel Simons, son of Renaissance founder James Simons. While it might be unknown to many institutional investors, Meritage is seen as a hot ticket by hedge fund operators eager to do business with such a substantial investor.

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