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Dutch pension provider PGGM considering hedge fund replication

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NETHERLANDS – PGGM, the €125bn pension provider and asset manager for schemes in the Dutch care sector, is looking into the possibility of adding hedge fund replication programmes to its alternative investment portfolio, according to head of hedge funds Jan Soerensen.

Hedge fund replication strategies are predicated on the assumption that a significant proportion of hedge funds' returns can be accounted for by systematic risks – in the form of straightforward market betas or 'exotic', 'alternative' or 'hedge fund' betas.

They set out to replicate these risks via systematic, rules-based trading strategies in highly liquid instruments that can be implemented and accessed much more cheaply than the typical hedge fund.

PGGM already allocates to hedge fund strategies more cost-effectively than most institutional investors by virtue of its managed account platform, built in collaboration with Lyxor Asset Management in 2010.

By taking liability for all the operational aspects of its hedge fund investors itself, PGGM is able to negotiate lower management fees with the investment advisers to its accounts.

Because it now engages service providers like administrators and prime brokers itself, it is also able to negotiate lower operational costs.

"However," Soerensen told IPE, "we are looking for other ways to improve the costs of implementing our hedge fund strategy. We are looking at trade-based replication of hedge fund beta, for example."

Soerensen emphasised that this should not be seen as a negative judgement on the cost-effectiveness of hedge fund strategies.

Even after the past 2-3 years of disappointing performance, and even as hedge funds continue to impose a "reasonably high fee load", he said it was valid to argue that investors were paying for risk exposures that cost performance today but could pay-out under future scenarios.

But he also acknowledged that it could be difficult for boards and investment committees to take that perspective.

"Your board is comparing the returns of a range of asset classes against the costs of buying them over a 3-5 year horizon," he explained.

"If you are clearly able to deliver on the downside, you are home safe. But in 2011, hedge funds were down more than equities, and they are underperforming again this year.

"If you ask me, it's a different question. There is a lot of value in having these strategies as diversifiers – but I still have to ask what the fee load should be for that.

"If you can do this for a fee that is comparable to that charged for what we might call 'higher-cost' traditional assets like high-yield bonds – which we would expect to see offered for below 1% – you have a very good proposition."

The HFRI Fund-Weighted Composite index finished 2011 down 5.25%, while the S&P 500 index finished up 2.09%.

For the year to September, the hedge fund index is up 4.65% versus the S&P 500's 16.43%.

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