Money Management Executive
Despite signs that mutual funds and hedge funds are converging, long-only mutual funds are slackers compared with hedge funds when it comes to how much external research they are using, according to a study by Integrity Research Associates LLC.
"Hedge funds are more aggressively seeking out new sources of research than long-only managers," said Michael Mayhew, the New York company's chairman and the author of the study, which was released this month. "Long-only managers are complacent about external research, whereas hedge funds are continuously looking for what's new and innovative."
According to Integrity, hedge funds review their external research more frequently than long-only investment managers, are more likely to seek assistance finding research, and are much less confident that they have already found the best sources of research.
The findings were based on a poll of 43 research directors at U.S. hedge funds and long-only institutional investors last month. Mr. Mayhew said though the study was based on a small sample, the results were consistent with interviews with industry executives.
Forty-two percent of hedge funds evaluate their portfolio of research providers at least monthly, compared with 5% of long-only managers, the study found. In addition, 45% of hedge fund research directors use outside sources to identify research, compared with 13% of long-only funds.
Another finding from the study: 30% of hedge funds were "not too confident" or "somewhat confident" that they are using the best external research available, compared with 18% of long-only managers. Integrity said this finding and others indicate that long-only managers are more complacent about their research capabilities than their brethren at hedge funds.
The firm also asked buy-side research directors if their research providers offered unbundled prices as part of their valuation process; 58% of those directors said they consider whether their research providers offer their services on an unbundled basis.
Some respondents said providing transparency to their clients was more important than moving toward unbundling. Many research directors said they preferred to pay for research with client commissions — a strategy that forced them to accept a bundled model.
One reason for these trends in bundling, Mr. Mayhew said, is that long-only asset managers are rewarded primarily for gathering significant amounts of assets. This function is challenged by the firm's distribution relationships, its marketing organization, its track record, its relationships with pension consultants, and its cost structure relative to assets under management, he said.
Mr. Mayhew said, mutual funds succeed or fail on a number of different performance metrics besides returns.
Within the fund industry, Fidelity Investments and AllianceBernstein Investments do a good job of seeking external research, Mr. Mayhew said. Morningstar Inc. recently complimented Fidelity for improving many of its funds' performance over the past year, because of an additional $100 million invested in research.
Fund executives' efforts to improve their research outreach will be complicated by the philosophy at many mutual funds that supports limiting the role external research plays, Mr. Mayhew said.
But internal philosophy aside, some fund executives were stunned when they were presented with the study's conclusions, he said, and the executives likely will become more demanding about increasing the role of external research.
Some found fault with the study. Jeffrey Keil, the principal at the Littleton, Colo., investment consulting firm Keil Fiduciary Strategies LLC, said because of the differences between hedge and mutual funds, comparing their research needs can be difficult.
Many hedge funds are small and therefore must hire external companies to search for research providers, he said. Also, most open-ended funds do not use techniques allowed by hedge funds, so they do not need research to support these strategies, he said.
Mr. Mayhew said all asset managers are not rushing to embrace new research sources, even if they have diversified their product lines beyond long-only.
