BlueMountain Surge Highlights Alternative Demand

BlueMountain Capital Management LLC, an investment firm specializing in credit markets, has produced steady but unspectacular returns during the past five years. Investors have loved the managers for it.

Assets at the New York-based firm have jumped almost fourfold to $19.6 billion since June 2009. Its main credit fund has grown to $8 billion from $2.3 billion with annualized returns of 11.6 percent, according to letters sent to investors.

The firm is a beneficiary of a shift to alternative investments such as hedge funds, private equity and real estate. Assets across the industry doubled to $7.2 trillion last year from 2005 and are poised to reach $14.7 trillion by 2020, according to a McKinsey & Co. report released today titled “The Trillion-Dollar Convergence: Capturing the Next Wave of Growth in Alternative Investments.”

Investors are turning to the strategies even after they trailed broader indexes, leading “skeptics to contend that investor patience is wearing thin,” the report’s authors wrote. “To the contrary, McKinsey research clearly indicates that the boom is far from over.”

“One thing that comes up frequently in conversations with investors is they want less of a high-octane alpha generating product and more of something that helps deliver an outcome,” Ju-Hon Kwek, one of the authors, said in a telephone interview. That could be diversification or protection against inflation, he said.

Lower Volatility

BlueMountain, founded in 2003 by Andrew Feldstein and Stephen Siderow, has seen assets jump from $5.2 billion since June 2009. The firm aims to produce returns that aren’t correlated with broader markets with lower volatility. In recent years it has diversified into other areas including equities and commercial real estate. In an investor letter the firm said that it continues to “find good investment and trading opportunities, without betting red or black.”

Its main hedge fund was up 3.5 percent for the first half of this year, compared with 6.1 percent for the Standard & Poor’s 500 Index and 5.6 percent for high-yield bonds, according to Bank of America Merrill Lynch data.

Doug Hesney, a spokesman for BlueMountain at Dukas Public Relations, declined to comment on performance.

The firm is far from alone in seeing rapid growth since the financial crisis. Blackstone Group LP, the world’s biggest manager of alternatives to stocks and bonds, has increased assets under management to $278.9 billion from less than $100 billion at the end of 2009.

Private Equity

Carlyle Group LP, the second-biggest buyout firm behind Blackstone, has more than doubled in size to $202.7 billion in assets from $89 billion in 2009. Apollo Global Management LLC, the next largest in the U.S. with $167.5 billion under management, has more than tripled its assets from $53.6 billion during that time.

“Allocations to private equity are increasing across the spectrum of investors who participate in this area,” Carlyle co-founder David Rubenstein said on a February call with investors and analysts. “We will see a fair amount of additional money coming into the alternative space.”

McKinsey estimates that alternatives comprised about 12 percent of global industry assets and produced about a third of revenues in 2013. This will rise to 15 percent and 40 percent, respectively by 2020, with revenues of $168 billion excluding performance fees.

Largest Opportunities

“For asset managers, the continued rise of alternatives represents one of the largest growth opportunities of the next five years,” McKinsey wrote.

Firms offering alternative investments benefit from a performance fee structure that makes these investments more profitable for the managers than “plain-vanilla” fixed income and other traditional strategies, Kwek said.

Investors pay an average of 1.5 percent fees of assets and 18 percent of profits, according to Hedge Fund Research Inc., for hedge funds that in aggregate have trailed the U.S. benchmark stock index for more than five years.

Performance charges will change little in the short-term, as 80 percent of institutional investors surveyed predict the fees they pay hedge funds over the next three years will stay the same or, for a few, increase, according to the report.

Performance Rewarded

Investors “want to make sure incentives are aligned,” Kwek said. “They want to make sure managers are rewarded when they outperform.”

Retail and high-net-worth investors will also contribute to the rise of alternatives, accounting for up to 50 percent of net new retail revenues. This is taking the form of exchange-traded funds and hedge-fund strategies offered through mutual funds. Those that fail to adapt will lose out, according to McKinsey.

“The broader asset-management industry has been stuck in the old world of traditional asset return products,” Kwek said. “Those are folks who are going to be squeezed” by alternative investments.

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