Hedge funds have been unfairly demonised, UBS has written to its clients in a research paper. At the same time the Swiss banking giant has increased the share of this investment class in its sample portfolio – a position that contrasts with most other Swiss financial institutions.

Hedge funds originally served to protect investors from certain risks – hence the name. But since the financial crisis, at the latest, these speculative investment vehicles have become discredited. A consensus has emerged that they are too risky, too expensive and much too illiquid.

It is therefore surprising that UBS has increased the hedge fund allocation in its sample portfolio for private franc investors by two percentage points to 20 per cent, as reported by the «Neue Zürcher Zeitung» (NZZ) newspaper last Friday (article in German, behind paywall).

Highest Value in the Sector

This move makes UBS an outlier in comparison to the country’s other large asset managers. The Geneva private bank Pictet, for example, allocates 17 per cent to hedge funds, while local competitors, Lombard Odier and Credit Suisse are sitting at 13 and 12 per cent, respectively. Vontobel allocates six per cent to this asset class, while hedge funds are completely absent from the portfolios of Zürcher Kantonalbank, Julius Baer and J. Safra Sarasin.

With the exception of UBS, all the banks mentioned have left their hedge fund positions unchanged or even, in the case of Vontobel, reduced them.

Making Asset Classes Appealing

The rationale behind the behaviour of the largest Swiss bank is explained in a research paper for wealthy UBS clients, seen by finews.ch. The document states that UBS has set itself the goal of «demystifying» hedge funds – and making them appealing to its clients.

Hedge funds are not as risky, expensive or illiquid, the author claims, as many investors assume. Investors often have a «false idea» of hedge funds. UBS goes on to argue:

Hedge funds are not too risky because...

  • Risk management has improved significantly in recent years
  • Hedge funds featuring different strategies and varying degrees of risk are involved
  • In negative markets, hedge funds often perform better than shares.

Hedge funds are not too expensive because...

  • Over the past 17 years, they would they would have delivered more than a portfolio divided fifty-fifty between shares and bonds, taking fees and charges into account
  • Not all fund managers take the performance fee of 20 per cent in every case
  • The higher charges also serve as an incentive for the best talent on Wall Street
  • They are usually more complex to manage.

Investors need not fear the lack of liquidity because...

  • New hedge funds in compliance with UCITS meet the minimum liquidity requirements
  • Illiquidity is compensated by higher returns
  • Hedge funds add to the diversification of a portfolio

A look at the performance of the hedge funds being pushed by UBS – for example O’Connor Global Multi-Strategy Alpha – shows that between 2008 and 2016, the losses in negative markets were smaller in relation to the benchmark. However, in good markets, the same fund performed much worse at times than other investment vehicles.