Hedge fund managers must improve the transparency of their investment strategies, performance expectations, and the tradeoffs between risk and reward, according to the fifth annual global study by SEI, in collaboration with Greenwich Associates.

While almost one-third of respondents deem absolute return funds as the “top objective,” investors also regard risk management as essential, the study, entitled The Shifting Hedge Fund Landscape: Institutions Put Fund Managers To The Test, revealed.

“Three of the top four goals named by respondents - accessing non-correlated strategies, diversification, and lowering volatility - address investment risks. This suggests that institutions today use hedge funds to help them lower portfolio risks in addition to boosting returns,” said Rodger Smith, managing director of Greenwich Associates.

Managers must “proactively communicate with investors” in order to boost confidence regarding their own investment processes, explained Philip Masterson, senior vice president and head of business development in Europe, within SEI's investment manager services division.

Overall, institutional investors’ allocation in hedge funds continues to rise, as seen by the fact that over one-third of respondents plan to increase target allocations over the next 12 months, the study highlighted.

“While that number is lower than in past years, it comes on top of a 54 per cent increase in 2010. At the same time, hedge fund allocations represent a greater share of respondents’ overall portfolios, at nearly 18 per cent, up from 12 per cent in 2008,” the firm said in a statement.

“To stand out and attract investors, managers will have to be more forthcoming - not just in how they are enhancing their investors’ returns, but also demonstrate how they manage the portfolio’s risk exposure,” said Masterson.

The study also emphasises the need for “less opaque strategies,” as indicated by 82 per cent of respondents having listed long- and short-term equity among the top three strategies that they currently employ. This was followed by event-driven and credit, named by 53 per cent and 42 per cent respectively.

Meanwhile, the study found that just 15 per cent said they intend to divert "some share" of hedge fund allocations to regulated products, such as alternative mutual funds or UCITS funds over the next year.

In addition, despite the fact that average annualized returns fell to 6 per cent from 9 per cent last year, only about 7 per cent of respondents reported “any level of dissatisfaction with their returns.”

Investors were also divided – by a margin of 41 per cent to 25 per cent – about whether they are able to meet return objectives without hedge funds.

Overall, direct hedge fund investing “continues to gain momentum,” as 40 per cent of respondents invest solely via single-manager funds – a figure up from 24 per cent last year. Moreover, 56 per cent of respondents with more than $5 billion in assets use single-manager funds exclusively.