UK – Hermes Pension Management – the asset manager of British Telecom’s £50bn (€74.2bn) pension scheme - today said it expects to increase its hedge fund allocation from 2% over the next few years.

Hermes currently has £600m allocated to hedge funds, and the increase is likely to come from its equities portfolio.

The timeframe for the allocation will partly depend on trustee approval, said chief investment officer Nick Mustoe. He told IPE: “The pace will also be determined by how much we need to put into alternatives.”

Mustoe was speaking at the Hedge 2005 conference held in London today on ‘What Global Pension Funds Want from the Hedge Fund Industry’.

Pension funds are looking for “innovation, alpha and things you can’t achieve with a traditional portfolio,” he said.

He stipulated that larger pension funds are likely to increase their hedge fund allocation, while smaller funds are still weary and struggle to meet all the costs involved.

Mustoe explained that hedge funds are benefiting from the shift in asset mixes. A decline in equity weighting is resulting in more hedge fund allocation.

However, Credit Suisse First Boston managing director Paul Brine believes that hedge fund allocation may not be as high as some commentators suggest.

“Expectations are always disappointing,” he told the conference. He also told IPE that smaller funds will more than likely invest in private equity rather than hedge funds.

Mustoe stressed the need for transparency, risk control and accountability in hedge fund vehicles with sound and stable business models.

“We hate hidden extras and other changes creeping into the mix,” he said.

Brine and Mustoe agreed that hedge funds were becoming more institutional.

“As hedge funds build themselves up into significant businesses with bigger platforms and become more institutionalised, they will give more transparency and you will see more accountability,” said Brine.

There was also some consensus that hedge funds were gradually shifting from a ‘one size fits all’ structure to something that met specific client requirements.

Separately, Railpen is putting £135m (€200m) into the Governance for Owners’ GO European Focus Fund.

GO is a new partnership founded by former Hermes directors Peter Butler and Steve Brown.