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French Hedge Fund Malaise May Signal Broader Concerns For The Asset Class

Sebastian Dovey

Scorpio Partnership

6 May 2005

Despite early predictions, it is now more than four months into the new French regime for collective investment into hedge funds and there are still few signs of private banking uptake of the new fund classes. The slow uptake in France appears to be echoing a general private client realignment of interests in the alternative asset class across Europe, and perhaps across the globe. Recent work by Morgan Stanley has suggested that there has been a gradual tapering of fund in-flows into hedge funds, particularly among the high net worth clientele. In a market now estimated by Hedge Fund Research to be over $1 trillion, total inflows into the hedge fund industry have halved from about 20 per cent net new money in the first half of 2004, to just 10 per cent in the second half of 2004. The first half of 2005 may just fall below the double digit mark, according to many in the sector known to Scorpio Partnership. In this context, the experience in France is worthy of closer scrutiny. The Autorité de Marchés Financiers introduced the two new OPCVM fund structures last November, these being the Aria (OPCVM agrées à règles d’investissement allégées à effet de levier) and the contractual funds, which were expected to open the floodgates to onshore French HNW investment. To date, however, none of France’s private banks have taken an early lead in this area. This slow new fund inflow is in spite of the fact that France has a long history of hedge fund investment, with regulation of managed futures funds dating back to 1988 with the launch of fonds communs d’intervention sur les marchés à terme. The latter attracted HNW investment long before markets such as the UK even could explain the benefits of the asset class to mainstream HNW clients. In the past, there was also no restriction on use of alternative management techniques for segregated account mandates or synthetic products. In 2003 the Commission des opérations de bourse (now the AMF) also allowed investment into alternatives under a discretionary investment mandate and introduced the OPVCM FA structure, a retail fund-of-hedge-funds vehicle. The French windows appeared to definitely be pushed wide open. However, rules preventing OPCVMs from using prime brokerage services meant that in practice there was no effective collective investment fund vehicle for the onshore market. Thus, the bulk of French HNW investment has developed offshore while the retail market opportunity may in fact have been stunted. Even so, a study by LJH Investments last summer indicated that hedge funds represented 7 per cent of the total retail French asset management market and assets of €982 billion, making it the second largest market in Europe after Luxembourg. France also has more than 50 French managers authorised to manage funds-of-hedge-funds already managing more than €10 billion and a further 20 French hedge fund managers With this positive landscape, at the time of launch of the Aria fund class last year, it was expected that these products would be particularly attractive to the domestic HNW market. The Aria structure offers two vehicles: the standard OPCVMRIA and the ARIAEL, a leveraged version. The OPCVM FA also now comes into this Aria classification. The other fund structure launched at this time was the contractual fund, is open only to professional investors and has no limit on asset diversification or leverage and they may use prime brokers with no limit on rehypothecation. Contractual funds offer 90-day redemption periods and NAV calculations.