European Institutions Set to Increase Hedge Fund Allocation

November 29, 2004 ( - Hedge fund investment by European institutions is on the rise, with over 60% asserting that they will be invested in such vehicles in 2006.

A sure signal that hedge funds, as well as other alternative investments, are becoming more mainstream in Europe can be seen in a recent survey, the “European Institutions’ Alternative Investments”. Commissioned by investment manager Informed Portfolio Management, as well as the Alternative Investment Management Association, the survey shows a strong shift towards alternative investments in traditional institutions.

Currently, 40% of European institutions invest in hedge funds. Most of the money is given to external specialists, according to the survey, and this trend will increase as more money pours into these vehicles. Currently, fund of funds are the most popular form of hedge fund investment, most likely due to their diversification effects as well as due diligence concerns. Investment in hedge funds runs on average at 4% of total assets, which is still a small portion of overall allocation.

Other alternative investments – such as private equity, real estate, commodities, currency management and tactical allocation – are growing in popularity, according to the survey. By 2006, over 60% of institutions will be active in private equity, currency management, and tactical allocation. Real estate holdings already surpass this number, with 80% of institutions investing in the area.

The use of external managers is on the rise, according to the survey. External management in currency management and tactical asset allocation will certainly grow in coming years. Currently, for currency management, 10% of institutions employ external management; by 2006, this number is expected to exceed 30%. Similarly, tactical asset allocation with external managers is set to rise, with 20% of institutions saying they will increase their usage of such managers by 2006.

Regarding active risk allocation, 75% of an an institution’s risk is allocated to long-only equities and fixed-income on average. Fifteen percent is devoted to tactical allocation, while 5% is in both hedge funds and active currency management. Risk allocation varies by institutional size, with larger institutions more likely to allocate their active risk to internal management. This might change, however, with the survey suggesting that in the future active risk will increasingly be allocated to external managers.

Interest in such investment vehicles comes mostly from the northern part of Europe, with United Kingdom, Dutch and Nordic institutions investing at higher rates than their southern neighbors. The survey suggests that the largest increase in investor activity in the future will be seen in the UK and in Holland.

A total of 151 European institutions were interviewed from June until September for the survey.