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In a sign that hedge fund investing is becoming more and more of a game for the big guys,

Goldman Sachs Asset Management

, with $21 billion in hedge fund assets, tops the list of the world's 100 biggest hedge fund firms according to

Alpha Magazine's

annual ranking released this morning. Alpha is part of Institutional Investor, and its Hedge Fund 100 list, compiled since 2002, has become a benchmark tool for investors trying to identify who the top hedge fund players are in dollar terms.

Last year's top-ranked firm, San Francisco-based Farallon Capital Management, fell to number four, despite a $4 billion rise in assets. Goldman has seen its asset size increase by 85% each of the past two years. In 2004, the firm was ranked number 24 on the list with $5.4 billion in assets, and last year it had grown to $11.2 billion. The 2006 rankings reflect asset sizes as of Dec. 31.

"Goldman Sachs has the market penetration, the depth, the talent and the brains," says Steve Drobny, founder of Drobny Global Advisors, a hedge fund advisory firm, and author of

In The House of Money

, a recent book on macro investing. "They've been successful in the real-asset management space and have been able to convert that into the hedge fund space. They have caught on to the hedge fund opportunity."

Over the past few years, hedge funds have increasingly catered to institutional investors, such as pensions, endowments and foundations, whose appetite for hedge fund assets have grown dramatically. Those institutions seek large managers with scalable investment strategies and well-diversified platforms. Institutional investors represented 28% of the hedge fund assets in 2005 and are expected to grow to 42% by 2010, according to Donald Putnam, founder of Grail Partners, an advisory merchant bank. One of the other reasons large hedge funds are playing an increasingly important role is their trading edge. "You need to deploy a lot of money in and out as opportunities come and go,

and not a lot of small funds can afford to do that," said Tanya Beder, CEO of Tribeca Global Management, the fund of funds platform of


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Westport, Conn.-based quantitative hedge fund Bridgewater Associates, kept its second position from last year with $20.9 billion of assets under management. D.E. Shaw, another quantitative fund, is number three with $19.9 billion, moving up from its seventh position of last year.

"More quantitative-driven shops will be on the top of the list just because quantitative managers tend to be less capacity-strained. It's part of the quantitative investing process," says Aaron Dorr, managing director at Putnam Lovell, an investment bank specializing in the asset management industry. "Quant shops" invest based on quantitative analysis, using computer-based models. Because the same process can be used for a great number of securities, those funds tend to become big in size. For instance, Dorr says, a quantitative process can be applied to a long/short large-cap strategy, and then the same methods can be repeated for small-cap, medium-cap, currencies, etc.

The top three hedge funds on the list, with about $20 billion in assets each, have grown to mega-size size level, catering to large institutional investors in a development that reflects the evolution of the industry as a whole. Hedge fund assets grew to an astonishing 125% rate from 2000 to 2005 to nearly $1.1 trillion, according to Hedge Fund Research. Each of the top three firms grew by at least $9 billion last year. "I don't think the industry is growing because it's institutional. I think the industry is forced to become institutional because it's growing," says Dorr.

Rounding out the top five is Greenwich, Conn.-based ESL Investments, with $15.5 billion in assets. The firm is run by Edward Lampert, who orchestrated the merger between Kmart and

Sears Holdings


in 2004.

Several large hedge funds that were among the top-10 last year dropped down on the list. The most notable is Chicago-based Citadel Investment Group that fell out of the top 10 for the first time since the rankings were first introduced five years ago. Citadel was hurt in the energy sector last year. Madrid-based Vega Asset Management fell from number nine to number 29. The global-macro hedge fund run by Ravinder Mehra, suffered massive redemptions last year due to a decline in performance. Similarly, GLG Partners, a London-based manager, dropped from number four to number 14 due to a difficult year in convertible arbitrage.

All of the top 10 hedge funds are U.S.-based, except for two British firms: Barclays Global Investors (number six) and Man Investments (number eight.) The other top-10 U.S. hedge funds are New York-based Och-Ziff Capital Management Group (seventh position with $14.3 billion); Greenwich, Conn.-based Tudor Investment (ninth position with $12.7 billion) and Caxton Associates in New York (ranked number 10 with $12.5 billion.)

Funds have significantly grown in size since 2002 when the list was first compiled. At the time, the top manager was Moore Capital Management with $8 billion in assets. Today, Moore, run by hedge fund luminary Louis Bacon, is only number 18 on the list with $10.2 billion.

The rankings point to another interesting conclusion, and that is that the hedge fund industry is becoming notably, and perhaps dangerously, concentrated. In total, the Hedge Fund 100 firms ran $720 billion in assets as of Dec. 31, a nearly 27% increase from the $568 billion in assets managed by the 100 firms on the 2005 list. The top 100 hedge funds account for nearly two-thirds of the hedge fund's industry's $1.1 trillion assets, but comprise less than 1.25% of the estimated 8,000 to 10,000 hedge fund firms worldwide.