Hedge fund interest in private markets continues to grow. Here’s what the dispatchers think.

Asset owners are skeptical but open to investing in hedge funds that intersect in private markets – as long as the conditions are right.

At the TRS/ERS Emerging Manager 2022 conference on Wednesday, Lulu Llano, director of the Teacher Retirement System of Texas, and Panayiotis Lambropoulos, portfolio manager of the Employees Retirement System of Texas, shared their insights on the topic alongside Amit Doshi, a founder of Harbor Spring Capital.

The topic is front and center for many asset owners as hedge funds increasingly tap into private markets. Fewer and fewer companies are listed on the stock market and private equity fund peers are performing better.

Lambropoulos approaches those hedge fund companies that launch cross-funds with caution. “If my favorite public hedge fund came to me and told me they were going to have a separate class of shares and we were doing private investments, my first yellow flag would be why?” says Lambropoulos. “Why now? Why you? What’s the value proposition? And is it strategic drift?

He added that when limited partners invest in hedge funds, they are long call options, with the highlight being their strike price. However, adding a private investment to a hedge fund, in his view, is like adding a call option within that structure – similar to a leveraged call option.

But there are advantages to investing in a cross-fund. “As companies stay private longer, they often become competitors of public companies,” Llano said. As a result, she added, hedge funds that have traditionally invested in the stock market must now perform due diligence on private competitors, giving them more expertise in private markets than might be expected. first sight.

Harbor Spring found that to be the case, Doshi said. He recounted an investment his fund made alongside Amazon in More Retail, an “omnichannel” retail venture in India that has its roots in the grocery industry. Harbor Spring had been an investor in Amazon and had spent time researching the company’s acquisition of Whole Foods. When the opportunity to invest in More Retail presented itself, Harbor Spring was able to go further by adding an e-commerce element to the deal.

“Our public equity portfolio helped us close the private deal,” Doshi said. Likewise, he added, an investment in a private cashback company called Ibotta has given the company access to consumer data that can help it formulate short positions in its public markets portfolio.

Depending on their positions in their funds, Llano and Lambropoulos have different investment mandates. Texas ERS views its core hedge fund allocation as a risk mitigant to the rest of the portfolio, which means a “yield-seeking” crossover fund is by definition contrary to the program, Lambropoulos said. “On the basis of an investment perspective alone, it wouldn’t make sense for us to delve into cross-funds,” he added.

However, if he were to invest, Lambropoulos said he would be interested in activist investors who have more cash, as well as hedge funds who have experience in private equity. He added that this type of cross-fund makes more sense for sector funds than for long-short investors who invest in “everything under the sun”.

Meanwhile, the Texas teachers’ retirement system is a little more open to supporting hedge funds with private investments.

“From an investment perspective, we would consider managers who have the necessary expertise, and [who] have a competitive advantage in the space,” Llano said. “Equally important, they need to have a solid operational structure that includes a solid valuation framework with a clear and repeatable pricing structure.”

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