A recent flurry of hedge fund deals by banking and other financial services companies increased their stake in the alternative investment products business, and analysts said this appears a logical next step for the banking community.
In a move it said would expand its product offerings for institutional and high-net-worth clients, J.P. Morgan Chase & Co.'s asset management arm announced late last month that it would buy a majority stake in the New York hedge fund Highbridge Capital Management.
The resulting partnership would give J.P. Morgan a controlling interest in the fund's equity, but the New York banking company would not manage the hedge fund.
It was also reported last month that Lehman Brothers Holdings Inc. was negotiating to buy GLG Partners, a British hedge fund. Calls to Lehman were not returned.
Jeffrey Harte, an analyst at Sandler O'Neill Partners who covers J.P. Morgan, said, "Most deals are in hedge funds now." The regulatory environment makes some banks hesitant about deals for mutual funds, he explained.
"Fee disclosures are less of an issue for hedge funds," Mr. Harte said.
It is just this looser oversight that worries Geoff Bobroff, an asset management consultant in East Greenwich, R.I., who agreed, however, that more banks are likely to consider buying hedge funds. Because hedge funds are not well-regulated, "a train wreck could occur," he said.
Moreover, he said, he does not believe that now is the right time for such a move. "Investment banking and trading have been down, and a lot of firms are looking for the golden apple," he said. "We're going into a period where nonfinancial assets will be king."
More hedge funds will entertain purchase offers, he said, because many may feel that they are at a "peak in the market and will decide to play with others' money. There is a herd instinct right now."
Richard Bookbinder, a managing member of Bookbinder Capital Management LLC, a New York fund of funds with $50 million of assets under management, said that, though he does not believe more banks will buy hedge funds, it could make sense for the right bank.
"Hedge funds are becoming mainstream," said Mr. Bookbinder. They are being marketed to the mass affluent, he added.
But Mr. Bobroff said he thinks this is unhealthy. "Hedge funds are a good product for the ultra-wealthy," he said, "but I'm uncomfortable with bringing it downstream."
The main advantage for banks, said Mr. Bobroff, is that wealthy customers want access to different products with enhanced returns.
Investing directly in hedge funds can be an attractive business for some banks as they look to increase fee-based income, Mr. Bookbinder said. "It depends on the institution and the ability of hedge funds to deliver superior returns," he said.
A New York hedge fund consulting firm, Hennessee Group, says the average hedge fund's value rose 1.47% in September. Since January, hedge funds have returned 2.57%, more than most stock indexes, according to Hennessee data. The hedge fund industry will manage $1 trillion of assets by the end of this year, Financial Research Corp. of Boston says.
Regarding whether this is the right time for banks to embark on this business line, Mr. Bookbinder said, "It will be the right time if the bank finds the right strategic fit."
J.P. Morgan's deal was a positive move for it, he said. "With the Morgan deal, you're looking at one of the premier banks in the world with very sophisticated internal systems and sophisticated personnel - it's a great way to increase their distribution in this area," he said.
Kristin Lemkau, a J.P. Morgan Chase spokeswoman, said that the company seized the opportunity to buy Highbridge Capital because of increased client demand for alternative investment products. "Over time J.P. Morgan saw a big migration as [the hedge fund industry] became more institutionalized," she said.
She said that J.P. Morgan's investors are attracted to hedge funds' investment consistency over time. Hedge funds have performed 50% better than the S&P index since 2002, she said.
The banking company has seen more pensions and endowments move toward alternative investments, Ms. Lemkau said, and it believes this is an added service for individual high-net-worth clients.
Many investors are more comfortable with hedge funds, and this alternative product has become an acceptable asset class for high-net-worth investors as part of their overall portfolios, said Sandler's Mr. Harte.
Mr. Bookbinder said that investors are warming up to hedge funds and are drawn to their superior returns and consistent low volatility during the difficult early years of this decade. "They are becoming more prepared. Allocations have increased ever so slightly," he said.
Mr. Bobroff, however, said investors are not ready for hedge funds to go mainstream and that regulators would not warm to the idea. SEC Chairman William "Donaldson is committed to bringing hedge fund products into his domain," he said.
JPMorgan Fleming has $11 billion of hedge fund holdings - including $3 billion in a proprietary hedge fund and $8 billion in fund-of-funds investments. It also offers other forms of alternative investments, including $9 billion of private equity funds and $18 billion of managed real estate investments, said Ms. Lemkau.
Highbridge Capital, which manages $7 billion of assets, was created in 1992 as a multistrategy hedge fund. It operates seven strategy groups that include global convertible arbitrage, statistical arbitrage, and structured private investments.
