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Last Updated: Thursday, 18 January 2007, 11:08 GMT
The hedge fund bezzle
Robert Peston
By Robert Peston
Business Editor, BBC News

City workers head to office
Hedge fund managers can bag huge bonuses for their work
It wasn't a bad year for hedge funds. They rose 13.86% on average in 2006 - almost double what they made the previous year, according to the Credit Suisse/Tremont hedge fund index.

But that performance - which to be clear, is not particularly special - does not come cheap.

Hedge fund managers charge 2% in annual charges and take between 20% and 40% of any capital gains made by the invested funds.

The rewards for the managers are stupendous, which is why so many bankers, brokers and hedge funds have set up hedge funds in recent years.

Thus the 10 partners at Sloane Robinson - a successful UK hedge fund - shared 208m between them in the 16 months to last March. In other words, that is 20m plus trousered per partner.

Nice work, you might think. But hedge-fund superstars in the US do so much better - they make 10 times that.

Investor focus

However, if you are an investor, you shouldn't care about that, so long as you are making a nice return on the money you are giving to the hedge-fund managers.

And top hedge funds, like Atticus or TCI, may well be worth the fat fees. They generate returns well above the average 13.86% - 40% plus is not unusual.

But, of course, you can't just give your money to an Atticus or TCI.

The top hedge funds do not want your savings. They have got investors queuing up to give them cash. And many of them are turning it away, fearing - rightly - that when a fund reaches a certain optimum size, diminishing returns set in.

Mostly it is only the new or more rubbishy funds that are open to new money. So the average return of 13.86% is probably a guide to what is actually available.

Better bet?

And here is the thing. Anyone who simply bought the US market or the European market via a cheap index fund would have done much better.

The Dow Jones Industrial Average rose about 17% last year, while the FTSE Eurofirst 300 - which measures the performance of European share markets - gained 16.3% cent.

If you shop around, you can pay 20 or 30 basis points in charges for a decent index fund, compared with up to 2000 basis points on a hedge fund (one basis point is 0.01%).

So here is a reason to be depressed.

Your pension fund - and yes, I mean you - has been reducing its exposure to equities over the past couple of years, while they have been storming ahead.

Meanwhile, it has been increasing its exposure to so-called alternative assets - or hedge funds and private equity - just as their returns look set to fall to the mean, or even possibly deflate like a pricked bubble.

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