Not only did Canadian hedge funds outperform American hedge funds as well as global indices last year, they maintained high returns amid a decline in the US hedge fund sector.
This follows the predictions of a study by Beedie School of Business Professor of Finance Peter Klein and his colleagues, who investigated the Canadian hedge fund industry and found Canadian funds to have higher risk-adjusted performance than their global peers.
The study attributes the strong performance of Canadian hedge funds to a lower level of competitiveness for capital due to the smaller size and number of hedge funds in Canada. In addition, Canadian funds are better able to exploit inefficient domestic financial markets and having an information advantage by investing in markets that are closer in proximity.
Hedge funds, according to Investopedia, are a type of financial investment that allows multiple investors to pool their money together. In Canada, hedge fund investors must have a net worth of at least $1 million or earn $250,000 per year in income. Thus, hedge funds are allowed to take more risks than traditional mutual funds and are less regulated as investors are seen to be better able to shoulder losses.
Professor Klein was motivated to study Canadian hedge funds “to articulate a business opportunity” to potential investors and contribute to the growth of the hedge fund sector by advising investors to look to Canada.
Klein himself facilitated two pensions plans placed with KCS Fund Strategies as part of their Canadian hedge fund portfolios, and continues to promote Canadian hedge funds. Said Klein, “There is too much capital chasing too few opportunities” in the US, and there is room for development in Canada.
This room for development has been realized in 2015, according to John Shmuel of the Financial Post. While US hedge funds contended with high competition for investors and a higher number of closures last year, the Canadian sector has seen relatively strong returns with new hedge funds opening up.
The small number of hedge funds makes it easier for new entrants since there is less competition. Furthermore, Canadian hedge fund managers are more knowledgeable about the Canadian markets they are investing in, which can improve returns.
One disadvantage for Canada is that investors with large amounts of capital tend to invest in the US, since Canadian hedge funds are too small to generate a significant impact for their investment. Shmuel noted that this can even be seen with the Canadian Pension Plan Investment Board, which has invested $272 billion in US hedge funds.
Klein argues that this places “limits on growth” for Canadian hedge funds. Additionally, a unique risk for Canadian hedge funds is that of a real estate market crash. Moreover, Klein mentions that Canadian hedge funds may already have higher risk-taking activities than seen in the US.
However, if Canadian hedge funds can continue attracting investment, Klein sees “Canadian capital markets becoming more efficient and creating more employment” in the near future.
