Evidence is mounting that today's hedge fund managers may be the captains of a sinking industry, one that's already struck an iceberg and can't take on much more water.

Are All Hedge Funds Losing?

It isn't easy to claim hedge funds are dying out, because hedge funds don't really have a set definition. The Securities and Exchange Commission (SEC) says the term 'hedge fund' first popped up in 1949, but that "it is not statutorily defined." The Financial Services Authority (FSA) in the United Kingdom admits to "no universally accepted meaning."

The International Monetary Fund (IMF) argues hedge fund-style instruments have been around 2,500 hundred years and tries to define them with four attributes: focus on absolute (rather than relative) returns, plus the uses of hedging, arbitrage and leverage.

This general strategy of hedge funds, so defined, is clearly not dying out. Plenty of successful investment vehicles use hedging, arbitrage and leverage. Plenty of successful fund managers are compensated based on performance, not on fixed percentages of assets.

For simplicity and clarity, today's struggling hedge funds can be grouped by a few characteristics: they are privately organized as investment partnerships or offshore companies; they are subject to less regulation; and they build their investor bases with high-net-worth individuals (HNWIs) and institutional investors.

The name "hedge fund" may not go away, but it seems increasingly likely that the 1980s- and 1990s-style hedge fund management needs to adapt in order to survive. Only commodity-based hedge funds managed to add capital since the summer of 2016.

Tracking the Decline

Several high profile hedge funds have closed in recent years. Headline names such as Seneca Capital, Lucidus Capital Partners and BlueCrest Capital Management all shut their doors. Three straight losing years caught up to Bain Capital Absolute Return Capital and Fortress Investment Group, both now gone. George Soros, a progenitor of modern hedge fund tactics, closed off his fund to outsiders. Troubles are hardly limited to big players as hundreds of funds of all sizes have closed.

If today's large-scale investors keep abandoning hedge funds, there is a chance that tomorrow's investors won't have any left in which to invest. Today's hedge funds tend to offer lower returns than standard index investing, except fees paid to the fund are several times what other instruments require. It's a terrible recipe for survival.

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