Aug. 9 (Bloomberg) -- On a Thursday night in May, Arpad Busson danced atop a white sofa, a cigarette in his hand, as the Pet Shop Boys performed their 1980s hit “West End Girls” at his annual hedge-fund charity gala in London.
The party at Kensington Palace Gardens, where guests including celebrities Eva Herzigova were entertained by female trapezists, wasn’t quite as exclusive as in prior years when attendees included Prince William and his wife Catherine, the Duchess of Cambridge, and former U.S. President Bill Clinton. Organizers dropped the black-tie requirement at Busson’s Absolute Return for Kids dinner, which raised about 15 million pounds ($23 million), little more than half the record 27 million pounds five years ago.
Busson, one of the biggest names in an industry that funnels billions of dollars to hedge funds, is finding raising cash has gotten a lot harder, and not just for charity. Underperformance in the past four years has investors doubting the value of so-called funds-of-funds as middlemen, spurring a wave of consolidation and forcing firms to redefine their business. Busson’s EIM SA has lost about two-thirds of its assets since 2008, and he said it may not remain a stand-alone company.
“It’s more interesting for us to do something today than it was 10 years ago,” Busson, who is known as Arki, said in a July 30 interview at the Woodstock, New York, home of Uma Thurman, with whom he had a baby last month. “There are certain areas where we don’t have a great presence, for instance in the U.S. That would be a reason to do something with a U.S. firm,” he said, referring to a possible merger.
Busson, sitting in the kitchen of the 19th century farmhouse, a black convertible vintage Ford Thunderbird parked outside, said he’s held talks for at least a year about forming a “strategic partnership” with rivals, banks or insurers. He said he’s had discussions with several asset managers that each oversee about $100 billion, including one with an existing funds-of-funds business. Nyon, Switzerland-based EIM, which Busson, 49, started two decades ago to invest the money of wealthy Europeans in hedge funds, hasn’t hired any lawyers or bankers to work on a merger, he said.
“I don’t mind having a partner, but there’s no way I’m getting out, I’m still young,” Busson, wearing a white shirt, Diesel blue jeans and black Prada sneakers, said in the interview, his remarks interrupted by the barking of Thurman’s dogs. He said if he strikes a deal, he would prefer to do one with a similar-sized firm because otherwise his role might be diminished.
Busson, the sole owner of EIM, declined to comment on whether his firm is profitable. He said EIM has no debt and a “healthy” balance sheet. Busson said he spends 80 percent of his working hours on the firm and the remainder on his charity.
Busson, who said at a May 2010 Bloomberg hedge-fund conference that he was looking at three targets for an acquisition, is still in discussions with one of them, a European company with $500 million in assets, he said in the interview. Talks with the other two fell apart, he said. Busson said 30 percent of an estimated 107 funds-of-funds that manage at least $1 billion may disappear in five years or be consolidated into other companies.
Funds-of-funds, which are paid by clients to pick, screen and monitor managers, usually charge fees of 1 percent of assets and 10 percent of profits, on top of the 2 percent management fee and 20 percent performance fee charged by the underlying hedge funds.
They rose to prominence in the 1990s and the years leading up to the 2008 financial crisis, when hedge funds still outperformed traditional investments in stocks and bonds, and wealthy individuals, pension funds and other institutional clients were willing to pay extra fees for help in choosing and gaining access to the world’s top money managers.
Hedge funds returned an annual average of 13 percent from 1993 through 2007, according to Hedge Fund Research Inc., compared with an 8.9 percent return for the Vanguard Balanced Index Fund, which tracks a balanced mix of stocks and bonds. Since 2008, hedge funds have underperformed, returning an average 0.9 percent annually compared with 3.8 percent for the Vanguard Balanced Index Fund. The industry oversees $2.1 trillion.
Funds-of-funds returned an annual average of 9 percent between 1993 and 2007, and have lost an average of 2.5 percent annually since then.
By 2004, 71 percent of the money invested in hedge funds came from funds-of-funds. Their share was about 40 percent at the end of last year, according to a 2012 investor survey by Goldman Sachs Group Inc. The world’s largest funds-of-funds four years ago, Union Bancaire Privee and UBS AG with $57 billion and $55 billion respectively, have lost more than half of their assets.
“What we’re seeing now is the natural progression of a slow-dying industry, with only those that can reinvent themselves surviving,” said Matt Simon, senior research analyst in New York at Tabb Group, a financial-markets research and advisory firm.
Investors pulled a net $12.1 billion from funds-of-funds in the first half of this year, the most since 2009, according to Chicago-based Hedge Fund Research. About 23 percent of investors are looking to cut their allocations to funds-of-funds this year, almost double the amount of those that plan to increase, according to a Barclays Plc investor survey.
Assets managed by funds-of-funds have grown about 10 percent in the past 2 1/2 years to $627 billion. They are still down 22 percent from their 2007 peak of $799 billion, HFR estimates.
EIM has suffered redemptions by sovereign-wealth funds, according to people with knowledge of the matter. Busson said his firm, which charges clients half the industry’s standard performance fee, manages almost $5 billion, down from a peak of $14 billion in 2008. He said assets fell because of client withdrawals, underperformance by credit hedge funds, and as currency swings eroded the value of investments.
Busson said “several” investors, including banks and pension plans, have signed contracts to become EIM clients within the next three months. The firm appointed Robert Phillips from Geneva-based UBP global head of research for equity long-short hedge funds in June.
The industry will continue to get business from clients who are investing in hedge funds for the first time, as well as from those who lack the resources and experience to monitor managers themselves, according to Daniel Celeghin, a partner at Casey Quirk & Associates LLC, a Darien, Connecticut-based firm that advises asset managers. Clients will also continue to use funds-of-funds to get into startup hedge funds and managers focusing on niche strategies, he said.
Some firms that remain in business are increasingly providing advice to clients on investing and constructing portfolios, competing with pension-fund consultants who charge lower fees, according to Anurag Bhardwaj, who runs strategic consulting at Barclays’s prime services group in New York.
“Funds-of-funds are basically having to do more for less money,” he said. “The pressure on them now is to show they have a role to play for institutional clients, who are not sure if funds-of-hedge funds add enough value to justify an additional layer of fees.”
Funds-of-funds that mainly have pension plans and other institutional investors as clients will probably win assets this year, according to the Goldman Sachs report. Firms that have added assets are those that didn’t invest with U.S. fraudster Bernard L. Madoff, have longstanding relationships with pension plans and other institutional investors, and are offering a broad range of alternative investments.
Blackstone Group LP, the world’s largest private-equity firm by total assets, has seen its hedge-fund investments grow to $43 billion from $24 billion in 2008, making it the biggest player in the business. KKR & Co., the New York-based private-equity firm, is following Blackstone in hedge-fund investing after agreeing on June 18 to buy Prisma Capital Partners LP, which has $7.8 billion in assets.
Other buyers in the consolidation of the funds-of-funds industry include Man Group Plc, which agreed in May to buy FRM Holdings Ltd., adding $8 billion in assets. Gottex Fund Management Holdings Ltd. in Lausanne, Switzerland, said in May it would buy Penjing Asset Management in Hong Kong to add about $434 million invested in hedge funds.
Busson, who was born in Paris and lives in London, speaks five languages including Italian, Portuguese and German. He maintains a higher public profile than the average fund-of-funds executive, having two children with fashion model Elle Macpherson, 48. He began dating Thurman, 42, after meeting her at a dinner in Rome in 2007.
Busson, who owns the iconic photograph of Marxist revolutionary Che Guevara taken by Alberto Korda, and Thurman are worth an estimated 180 million pounds, according to an article published in April by London’s Sunday Times. Davidson Goldin, a spokesman for Busson at Goldin Solutions, declined in an e-mail to comment on the estimate of Busson’s wealth and referred questions about Thurman’s wealth to the actress. Attempts to reach Gabrielle Kachman, a spokeswoman for Thurman, were unsuccessful.
Most of EIM’s business is managing separate accounts for clients. Its investments returned an average annual 12 percent from 1996 to 2007, according to a person with knowledge of the matter. Busson said performance has been “positive” after 2008, declining to be specific.
At least three of EIM’s funds have underperformed rivals, according to data compiled by Bloomberg. EIM’s AAA Alternative - Low Vol fund produced an average annual gain of 0.11 percent from its January 2002 inception until February of this year, compared with an average of 3.5 percent for the HFRI Fund of Funds Composite Index. The fund, which managed $250 million at its peak, was liquidated in March as clients pulled money, Busson said.
The firm’s Albion fund produced returns of 0.64 percent a year since it was started in November 2002 through June, also trailing the industry. Albion oversaw a peak of about $60 million, Busson said. EIM’s AAA Long-Short fund has returned 1.22 percent a year since inception in June 2004, the data shows.
“Randomly selecting these three minor accounts from hundreds of more significant EIM accounts” is “misleading,” Goldin said in the e-mail.
Goldin declined to provide returns for the other EIM accounts. The returns for the AAA Alternative - Low Vol, Albion and AAA Long-Short funds are compiled by Bloomberg.
Busson got his introduction to finance in the 1980s after meeting Glenn Dubin, an EF Hutton broker who went on to co-found hedge fund Highbridge Capital Management LLC, at a dinner party. Busson began raising money from wealthy European investors for U.S. hedge-fund managers, including Paul Tudor Jones, founder of Tudor Investment Corp., then for Louis Moore Bacon, who runs Moore Capital Management LLC, and Julian Robertson, who started Tiger Management LLC.
In 1992, Busson started EIM, or European Investment Management, with $100 million of client money. His success at matchmaking stemmed in part from his ability to tap a group of wealthy friends, some from his prestigious Swiss boarding school, Le Rosey.
Busson hired people with royal and business connections. Philipp von Habsburg-Lothringen worked at EIM’s London office. Aleco Keusseoglou, who attended the same boarding school as Busson and oversaw his family’s shipping company, runs EIM’s Monaco office. Prince Philippos, the son of King Constantine of Greece and Anne-Marie of Denmark, is based in EIM’s New York offices, where Stavros Niarchos, one of the heirs of Greece’s Niarchos shipping dynasty, had previously worked.
EIM rode a boom in hedge funds that saw assets grow 48-fold from 1990 through 2007. Then came the 2008 bankruptcy of Lehman Brothers Holdings Inc. and the unraveling of Madoff’s Ponzi scheme, which dented the reputation of the funds-of-funds industry because many had failed to protect clients from the fraud. A net $41 billion left the funds-of-funds industry that year and $118 billion in 2009, according to Hedge Fund Research.
EIM posted its first annual losses in 2008, with accounts declining 8 percent to 19 percent, said the person with knowledge of the returns, asking not to be identified because the information is private. The firm had invested $230 million of client money, or 2 percent of EIM’s assets at the time, in Madoff’s Ponzi scheme.
EIM’s losses and reputational damage tied to Madoff could have been worse. EIM executives in 2008 were planning a so-called feeder fund that would invest exclusively in Madoff, according to two people with direct knowledge of the matter.
Known by EIM employees as the Gilston project, the fund had sought to bypass fees charged by third-party funds through which EIM at that time invested in Madoff, they said. The plans weren’t completed before the fraud came to light in December 2008, the people said.
Busson said investing in Madoff was the biggest mistake he has made in his career and declined to comment further on the fraudster.
Other firms that invested in Madoff’s Ponzi scheme include Man Group, UBP and Banco Santander SA. UBP has shrunk to about $12.2 billion as of the end July, a decline of 79 percent from before the fraud was discovered. Madoff -- who pleaded guilty to operating a Ponzi scheme that the firm’s trustee says cost investors about $17 billion, the largest in U.S. history -- is serving a 150-year jail sentence.
Busson had previously invested with another manager who turned out to be a fraudster -- Michael Berger, who ran Manhattan Investment Fund Ltd. Berger pleaded guilty in 2000 to allegations that he lied about his fund’s losses from betting against Internet stocks. Questions about the legitimacy of Berger’s profits came to EIM’s attention in 1998. A managing director at Bear Stearns Cos., Berger’s prime broker, learned from an EIM executive at a cocktail party that Berger had told clients he made returns of 20 percent, according to a 2007 court opinion by a New York federal judge tied to Manhattan Investment’s bankruptcy.
The profits contradicted the understanding of the Bear Stearns managing director, who “believed” Manhattan Investment was losing money, according to a court order issued by the judge. The managing director discussed Manhattan Investment the day after the party with Busson. Busson told him “months later” that EIM was pulling its clients’ money from Manhattan Investment, because Berger refused a request to turn over financial information, the court order shows.
Busson said in the interview that he didn’t know Berger was a fraud when he withdrew EIM’s money.
EIM, along with other firms, also invested in Amaranth Advisors LLC, the hedge fund that shut down in 2006 after losing more than $6 billion; the Bear Stearns hedge funds that imploded in 2007 after making bad wagers on U.S. mortgages; Drake Management LLC, which in 2008 started liquidating its biggest fund; and Artradis Fund Management Pte in Singapore, which shuttered last year, according to Bloomberg Markets magazine and a person with knowledge of the matter.
Busson declined to comment on the hedge-fund managers he invests with.
Since the Madoff disaster, EIM and other funds-of-funds have made changes. Busson said that his firm requires independent valuations of hedge-fund assets and that managers provide data of their trades to an independent firm that aggregates the information for investors. EIM also has a managed-account platform so clients have more transparency about their investments, he said.
Still, many of the larger hedge-fund investors, especially institutions, have increasingly bypassed funds-of-funds to put their money with hedge funds directly. Massachusetts’ state pension fund, which has about 10 percent of its $50 billion in assets in hedge funds, last year started reducing its use of funds-of-funds, spokesman Jon Carlisle said in an e-mail.
“Funds-of-funds have basically been providing access and that hasn’t kept up with changes in the industry,” said Jaime Castan, who in May stepped down as co-head of hedge funds at LGT Capital Partners AG, a Pfaeffikon, Switzerland-based firm with more than $5 billion invested in hedge funds.
Some of the bigger hedge funds shun funds-of-funds in favor of direct investments from pensions and endowments. Bridgewater Associates LP, Ray Dalio’s $120 billion firm, prefers such institutional clients because they typically commit larger amounts for longer periods, according to an investor who was turned away by the firm and who asked not to be named. Suzanne Hallberg, a spokeswoman for Westport, Connecticut-based Bridgewater, declined to comment.
EIM employs more than 100 people, a third of whom are directly involved in managing the firm’s almost $5 billion across 10 global offices. Blackstone has about 130 investment professionals in its hedge-fund business, which oversees almost nine times as much money. Changes in regulation may allow EIM to scale back, as the firm will no longer need to have offices in countries where some clients are based, Busson said.
Busson said if he were to combine EIM with another firm, he would be happy to work with a partner who had complementary skills at running a business. Busson said he prefers to deal with clients and evaluate hedge funds rather than run the administrative side of the business.
“If this business was supposed to be run as a business to be sold, there were profit margins that I would have been focusing on, but my priority has always been serving clients,” Busson said. “I don’t regret anything, but I do think it could be better managed.”
Whatever Busson decides to do with EIM, he said he would continue to hold his annual charity dinners for ARK, which has raised more than 170 million pounds for causes from funding U.K. charter schools to vaccinating children in Africa since it was started about a decade ago, according to its website. Bloomberg LP, the parent of Bloomberg News, sponsored the ARK dinner in May.
“It’s been tough for everyone,” Busson said in the interview. “Unless you are Apple or Samsung, there are few businesses today that are as profitable as before and not having difficulties.”