Computers 'will replace hedge fund managers'
The hedge fund industry is set for a move away from active fund management according to a new report because automated trading systems can outperform real managers.

Professor Harry Kat and colleague Helder Palaro from Cass Business School claim to have designed systems that would have outperformed real managers 82% of the time over the past 15 years.

This is the third time Kat has made such a claim in almost 18 months.

The two academics said they tested their mechanical futures trading strategies, which generate returns with the same risk as normal hedge funds, against 2,500 funds of funds.

Kat said index fund management will approach 40% of the hedge fund industry within 10 years, a similar proportion to that of the traditional long-only management industry today.

Kat said: "In the early days, the high fees came on the back of 15% to 20% returns. Things are very different now; hedge fund returns are routinely around 6% to 7%, basically the same as a glorified savings account. If fund managers are taken out of the picture, however, returns can be boosted by 2% or 3%.”

Kat also said that since synthetic funds trade in only the most liquid markets, they avoid other costs associated with alternative investments, including greater due diligence, transparency and "style drift", which refers to a manager's tendency to move away from his original stated investment strategy.

Critics of the research argue that Kat has not invested his own money in the system. However, a spokesman said that as an academic, the Cass professor "does not have the money to invest".

Taking all ego out of investing in hedge funds
"As the hedge-fund industry matures, and it becomes increasingly difficult for many investors to identify and invest in the top-performing hedge funds, passive management should gain wider appeal with hedge-fund investors," Merrill Lynch derivatives analyst Benjamin Bowler said in a recent report.

He notes that with the sharp growth of hedge funds, it is becoming tougher for active managers to excel. In that environment, he said, it's also more difficult for "investors to justify paying hedge fund fees for the performance of the average active manager."

So passive alternatives represent a natural evolution in an increasingly mature industry.

A Smarter Computer to Pick Stocks
Ray Kurzweil, an inventor and new hedge fund manager, is describing the future of stock-picking, and it isn’t human.

“Artificial intelligence is becoming so deeply integrated into our economic ecostructure that some day computers will exceed human intelligence,” Mr. Kurzweil tells a room of investors who oversee enormous pools of capital. “Machines can observe billions of market transactions to see patterns we could never see.”

According to their paper, "Can Hedge Fund Returns Be Replicated? The Linear Case," the so-called hedge fund clones achieved higher risk-adjusted returns than certain types of hedge funds. But some strategies, such as convertible arbitrage, were not possible because investment products didn't apply. The passive clones provided an annualized return of 12.8 percent compared with 14.2 percent for the full array of hedge funds over 18 years.