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February 18, 2015  

Cap-Intro Survey Bodes Well for Fund Startups

Pensions, endowments, foundations and family offices are far more likely to back startup hedge fund managers today than they were just two years ago.

That’s among the findings of an annual survey of institutional investors conducted by J.P. Morgan’s capital-introduction group. The results, distributed to the bank’s hedge fund clients last week, show that 46% of the endowments and foundations surveyed invested with at least one startup last year — up from a mere 13% in 2012. The increase was virtually identical for family offices. Among pensions, nearly one in four reported backing a new fund operation, up from 15% in 2012.

“Investors are actively starting to allocate capital to startup managers,” the report says. “When evaluating a startup hedge fund . . . manager pedigree and track record from a prior firm are clearly the most important factors.”

In a similar vein, the survey found that fewer institutional investors set minimum thresholds for assets under management. For example, only 8% of respondents said they limit their searches to firms with at least $500 million, down from 12% a year earlier. And a third said they have no minimum-asset requirement, up from 27%. That flies in the face of a popular notion that fund managers must have at least $100 million of assets before they become fair game for institutional investors.

The study incorporates responses from 386 institutional investors that collectively have about $800 billion invested in hedge funds — representing nearly 30% of global hedge fund assets. J.P. Morgan cast a wide net, seeking input from banks, insurance companies, pensions, consultants, endowments, foundations, family offices, funds of funds and wealth advisors.

Another finding that belies conventional wisdom is that increasing numbers of institutional investors are willing to consider funds with longer lockups. For example, 52% of respondents said funds with lockups of two years or more are “acceptable,” up from 46% two years earlier. Unsurprisingly, endowments and foundations have the strongest appetite for lockup vehicles, followed by funds of funds and pension consultants.

And while much has been made about the rapid growth of alternative mutual funds, only 27% of respondents said they currently invest in so-called liquid alternatives, up from 20% in 2013. Banks are the biggest investors, while pensions, endowments and foundations expressed the least interest in “liquid alts.”

The survey also found institutional investors are far less concerned about hedge fund fees than might be expected, given the intense media coverage of the issue following the financial crisis. Only 6% of respondents cited fees as their top manager-selection criterion, and just 15% included fees among their top five criteria. Of bigger concern to most investors are managers that take “excessive” risks or participate in “crowded trades.”

Investors’ overall enthusiasm for hedge funds has cooled in the past year, according to the survey. Only 42% said they were bullish on hedge funds heading into 2015, versus 66% a year earlier. That reflects the fact that 55% of respondents said their hedge fund portfolios failed to meet their 2014 return targets.

“However, there are no clear indications that investors will be redeeming from the space in 2015,” the report concludes. “Rather, respondents appear to prefer remaining more neutral in 2015, making changes to existing hedge fund portfolios at the margin.”