Morningstar sees retail investor opportunity in hedge funds

Major research and ratings house, Morningstar has pointed to the degree to which superannuation funds are allocating towards hedge funds and is suggesting the time might now be right for retail investors looking for diversification.

Morningstar analyst Ibrahim Guled-Warfield has written a paper reflecting on the fact that allocations to alternatives have steadily increased over the past decade on a per-fund basis among Australia’s most influential allocators – superannuation funds

He said that while hedge funds had experienced declining allocations over the past decade as a result of an unfavourable macroeconomic backdrop, this had changed and had altered institutional investor sentiment towards hedge funds.

“But perhaps the primary reason that institutional investors – who often pave the way for retail and advisor-led investors – are turning to hedge funds is the heightened difficulty of achieving effective diversification in an environment where traditional stocks and bonds are increasingly moving in tandem,” Guled-Warfield said.

He also noted that, despite declining local allocations, the global hedge fund industry has grown roughly three-fold over the past decade, with two types of offerings – multimanager hedge funds and specialised hedge funds coming to dominate the landscape.

Guled-Warfield not that while institutional investors were already rotating into hedge funds, retail and advisor-led investors faced significant barriers to obtaining traditional hedge fund exposures including high minimum investments and eligibility restrictions.

However, he said while many traditional hedge funds still carry these barriers, growth in liquid and semiliquid alternatives, combined with strong demand for innovation, has prompted the industry to evolve, creating products that are more accessible, more liquid, and more cost-efficient for a broader investor base.

“Rising inflation, higher interest rates, and greater market dispersion and volatility have highlighted the potential role of hedge funds as diversifiers. Retail investors now have increasing access to liquid and semiliquid hedge fund options that offer lower minimums, simpler structures, transparent fees, and daily liquidity,” Guled-Warfield wrote.

“While these vehicles don’t perfectly replicate traditional hedge funds and may deliver lower absolute returns, they still provide diversified, defensive exposure and potential sources of alpha. By considering strategy objectives and liquidity alongside personal risk tolerance, retail investors can thoughtfully include hedge funds as part of a broader portfolio.”