"Hedge" A Dirty Word For Many Funds

Reuters

Thu May 4, 2006 3:49 PM ET

By Julie MacIntosh

NEW YORK (Reuters) - Call them "investment firms," "long-only funds" or "securities funds," but don't call them -- gasp -- "hedge funds."

The term "hedge fund" is often tossed around to classify a wide strata of investment firms. But it may be morphing into the latest buzz phrase gone bad, as managers at many of the world's top funds look to refine their images during a period of greater scrutiny of the industry.

Many leading investment firms commonly called "hedge funds" take great pains -- both for regulatory and public relations reasons -- to label themselves in other ways.

Tudor Investment Corp., for example, calls itself an "alternative asset management firm," while P. Schoenfeld Asset Management LLC says it's a "registered investment advisor."

Investor George Soros, often referred to as a hedge fund manager, has said many operations that are billed as hedge funds would be better-characterized as "performance funds."

In the economic sense of the word, a "hedge" fund is a private entity that eliminates its market risk by investing in options or by short-selling certain stocks to offset long positions in others. But the term holds no legal weight.

So as the hedge fund industry has ballooned to $1.1 trillion in size, legions of investment firms that employ dozens of strategies -- even when traditional hedging isn't one of them -- have been lumped into the same basket.

"As hedge funds have gained stature and prominence ... 'hedge fund' has developed into a catch-all classification," former U.S. Securities and Exchange Commission Chairman William Donaldson said in 2003.

"Basically, many 'hedge funds' are not actually hedged, and the term has become a misnomer in many cases."

JUMPING BACK OFF THE WAGON

"Hedge funds got so popular so quickly that all types of investment funds wanted to market themselves as hedge funds," said Joel Schwab, managing director of Channel Capital Group, which oversees HedgeFund.net. "Everyone wanted to get in and have the money that was seeking hedge funds find them."

But fraud scandals, lukewarm returns at some funds and battles between activist investors and companies like Knight Ridder Inc. and Time Warner Inc. have since given the industry a bad rap. So a growing number of funds are now lobbying to be called almost anything else.

During Relational Investors LLC's bitter dissident campaign against savings and loan Sovereign Bancorp Inc. earlier this year, Sovereign repeatedly called Relational a hedge fund. Relational vehemently argues that it is not, since, among other things, it doesn't short-sell stocks or buy derivatives.

"There were indications that Sovereign was calling them a hedge fund as part of a public relations tactic," Channel Capital's Schwab said.

Other top U.S. funds are highlighting their low management fees or lack of short-selling activity and calling themselves "alternative investment vehicles." Private equity firm Sun Capital recently raised a $1.4 billion "securities fund" that will take minority stakes and make distressed plays.

"'Hedge fund' has never been a good name," said Christopher Geczy, an assistant professor of finance at the University of Pennsylvania's Wharton School of Business.

"Hedge funds are so heterogeneous," Geczy said. "I think the best name for what we see is just a 'private fund.'"

So is a name change all a hedge fund needs to avoid being associated with the industry's few roguish brethren?

The budding movement seems reminiscent of the burst of the dot-com bubble, when a swath of companies that were linked to the Internet scrambled to rebrand themselves.

But while marketing may sway small-time investors who dabble in shares of Internet companies, it's not likely to affect the decisions of many pension funds or the uber-rich.

"I believe the investors in alternative investment vehicles are sophisticated and know what they're investing in," said Michael Henry, a partner at Accenture who runs the firm's hedge fund group.

Henry said that of the approximately 10 funds covered by his group, he considers only one to be a true, market-neutral hedge fund.

WHAT ARE YOU, REALLY?

A hedge fund is "any pooled investment vehicle that is privately organized, administered by professional investment managers, and not widely available to the public," according to the President's Working Group on Financial Markets, a panel of government officials that studies such issues.

Beneath that umbrella, the vehicles most widely-considered true hedge funds often share other traits: They're financed by large institutions and high net-worth investors; their managers often hold large stakes in the fund; and many charge steep performance-based fees. In theory, they're market-neutral and can make money even when stocks drop in value.

The issue over the word "hedge" may matter most for the biggest institutions -- those that have grown out of the traditional hedge fund space and are trying to win as much investment capital as they can.

Institutions such as pension funds allot only a limited portion of their assets toward "alternative investments." But if a growing hedge fund can successfully claim it has become something else, it might score a bigger chunk of its investors' change.

"Definitions always matter," Wharton's Geczy said. "I think they have a legitimate point in raising this issue and in approaching pension funds from the perspective of their exposure."

"If everyone agrees there's a negative perception about the terminology 'hedge fund,' it would make sense that the larger institutions would consider characterizing themselves as something different," Channel Capital's Schwab agreed.

"Since the SEC has no legal definition of a hedge fund, why not call yourself something else?"