Study: Pension Consultants Recommend Large Hedge Funds, But Picks Often Underperform

Three researchers were awarded the Commonfund Prize this month for their paper on the performance of pension consultants’ hedge fund recommendations.

The paper, titled “Picking Winners? Investment Consultants’ Recommendations of Fund Managers”, found that consultants typically recommended larger hedge funds, but those picks often underperformed.

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The study of funds from 1999 to 2011 showed that, on an equal-weighted basis, the portfolio of all products recommended by investment consultants delivered average returns 1.12 percent annually lower than the returns obtained by other products available to plan sponsors, which are not recommended by consultants.

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The study from Tim Jenkinson and Howard Jones at University of Oxford and Jose Martinez at the University of Connecticut found that “investment consultants’ recommendations of funds are driven largely by soft factors, rather than the funds’ past performance, and that their recommendations have a very significant effect on fund flows,” the report noted. However, the most significant fact was that the study found “no evidence that these recommendations add value, suggesting that the search for winners, encouraged and guided by investment consultants, is fruitless.”

The study determined that the largest hedge funds, with the highest level of assets under management, receive the highest number of recommendations.

[…]

The importance of these consultants to pension funds was clear, as 63 percent of respondents to the 2011 Pensions and Investments survey said their investment consultants were “crucial” to success, while another 40 percent said consultants as “very important.” While 26 percent rated consultants as “somewhat important” it was a small minority who did not value the consultant’s advice.

Read the full paper here.

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