According to Ernst & Young’s annual global survey of the hedge fund market, only 10 per cent of investors feel that the increasing regulatory requirements for hedge funds effectively protect their interests. Most investors do not believe these requirements will help prevent the next financial crisis.

When it comes to compensation structures, the survey reveals a distinct difference of views between hedge fund managers and investors, Ernst & Young said.

While 87 per cent of managers feel risk and performance are effectively aligned with investor objectives, only 42 per cent of investors agree (down from 50 per cent in 2010). Investors would prefer to see asset managers investing more of their own money in the funds, deferred cash compensation and claw-backs. However, this misalignment of objectives has not caused material redemptions, nor do investors cite compensation as a key consideration when choosing a fund.

When broken down on national lines, the survey found that, for example, Swiss investors "do not see any benefit in the new hedge fund regulations, and the vast majority of them are critical of their proliferation and purpose". 

There is also a gap between hedge fund managers’ perception of why investors select or sell a particular fund and what the investors themselves say. Managers believe investors put most importance on historic performance, both long-and short-term, when choosing a manager. However, the survey shows that investors consider the investment team (82 per cent), risk management (70 per cent) and investment philosophy (66 per cent) to be the three most important criteria in the initial screening. This suggests that confidence that managers can generate strong future returns is more important to investors than past performance, the report said.

Investors also cite changes in the management team as a key reason for taking their business elsewhere.

“Staff turnover is a communication issue for hedge funds. Managers that communicate openly and honestly with investors about changes in the team and performance could create the necessary confidence in future returns to keep investors from pulling out of the fund,” said Cataldo Castagna, partner, financial services at Ernst & Young Switzerland.

The survey comprised 100 hedge fund managers with assets under management exceeding $710 billion and 50 institutional investors with hedge fund allocations totalling over $190 billion.