Dissatisfied with hedge funds' average returns of 8% in 2005, a far cry from the 15% to 20% that they handily returned all throughout the 1980s and 1990s, hedge fund investors are increasingly using a risky tactic once known mostly to hedge fund managers themselves: leveraging money.
Many hedge fund investors are using their existing hedge fund assets to borrow money and leverage their bets, Forbes reports. Most of these investors are turning to private banks for the loans, with many of them borrowing 50% of the value of their existing holdings. These margin calls--combined with an influx of cash to some especially risky hedge fund categories, like merger arbitrage--have some economists worried. The top 4% of wage earners in the nation are responsible for 21% of consumer spending. Should the hedge funds tank and these investors have to liquidate their remaining holdings to repay their loans, they would be likely to curtail their discretionary spending. And the popularity of hedge funds could wane.
But with more than 9,000 hedge funds now on the market and $1 trillion in hedge fund assets more than 40 times what they were 16 years ago, it has become increasingly harder for these fund mangers to deliver the kinds of outsized returns wealthy investors have come to expect.
Eventually, analysts predict, hedge fund investors will have to accept that double-digit hedge fund returns are a thing of the past.