Smaller Hedge Funds Are Struggling Harder to Compete

The small businesses of the hedge fund world are finding it tough to raise capital, as are small businesses in other industries. Here's how they cope: by lowering fees and working harder to please clients. After all, capital isn't just a business tool for hedge funds—it's their business.

Larger hedge funds-those with more than $5 billion in assets—account for 60 percent of the $1.6 trillion hedge fund market, according to Hedge Fund Research, in Chicago. Yet "almost all of the $23 billion put into hedge funds during the first half of the year went to those with more than $5 billion."

As a result, smaller funds are cutting fees to attract more assets. Balyasny Asset Management, a hedge fund in Chicago that manages $2 billion, has reduce its fees to 2 percent of assets under management and 30 percent of profits, according to Bloomberg, which cited three people briefed on the matter. The fund also will make it easier for clients to withdraw money on a regular basis.

The pressure on financial companies is widespread. Larger funds such as Renaissance Technologies and Citadel reportedly are lowering one or more of their fees, and D.E. Shaw reportedly is cutting 10 percent of its work force. Among the large banks, Morgan Stanley has instituted a hiring freeze in its investment banking unit and Bank of America is cutting 400 jobs.

But larger companies have scale, scope and brand power that can help them survive tough times, when prospective clients are less likely to take a risk on a smaller rival.

HFR says more than 400 hedge funds closed during the first half of the year, and that the number of fund launches fell to 201. About 800 funds have closed during the last few years, trimming the number of U.S. funds to 2,100 from 2,600 in mid-2008.

As returns shrink, the industry isn't attracting startups they way it once did.