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AmEx Bucks the Hedge Fund Trend

A spinoff prompts the financial giant to retreat from the competitive, overcrowded U.S. market.

Starkly contrasting the endless stories about the explosion of hedge funds,

American Express

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is closing down half of its U.S. hedge funds while downsizing its entire U.S. fund of funds operations. Amex's alternative investment business fell victim to a combination of factors; a spin off combined with the challenge of making it in an overcrowded, ultra-competitive U.S. market.

In February of last year, Sam Perruchoud, a Geneva-based Amex senior director and the architect of its fund of funds business, became the head of a newly created global fund of funds platform he had spent years building. This platform was the result of the integration of American Express Bank and American Express Financial Corp.'s (AEFC) fund of funds business. Perruchoud's group had more than $1 billion under management and was operating out of Geneva, New York and Minneapolis.

A year later, Amex announced the spin off of American Express Financial Advisors (AEFA), its financial network of more than 10,000 financial advisors. The announcement stated that Amex was trying to concentrate on its credit card franchise and very little attention was paid to the alternative investment activity of the company. In May, Amex renamed the AEFA unit Ameriprise Financial as part of the spinoff plan to become effective Sept. 30.

Ameriprise will host Amex's single hedge fund business, under the RiverSource Alternative Investments brand name. Christopher Keating, who joined in May from Fidelity Management Trust, will head up the group.

But what of the fund of funds business? Senior executives at Amex corporate had to make a tough choice. Should the fund of funds assets and people be transferred to AEFC or the Amex Bank? After all, both entities had contributed to the emergence of the global platform. They opted for the bank, where the bulk of the business had been built. Perruchoud himself was a former American Express Bank official.

However, the choice was not without implications. Because the bank is not a Registered Investment Advisor (RIA), Amex is now in the process of closing down its approximately $150 million U.S.-based fund of funds business, as it cannot do business in the U.S. for regulatory reasons. The rest of the assets, approximately $1 billion, will be transferred to the bank by Sept. 30.

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The shutdown began with the recent close of a $45 million Advisory Hedge Opportunity fund, whose assets are just in the process of being liquidated. But other funds will follow. Johnson declined to say how many funds are to be shut down, invoking their unregistered status, but it is in the $100 million ballpark, according to sources familiar with the situation.

While a $150 million fund of funds franchise is not a lot out of a $1.2 billion platform, it is representative of the difficulty of maintaining a strong presence in an increasingly competitive U.S. market. Clearly, if Amex had wanted to pursue its onshore business, a registration issue would not have been an obstacle. Perhaps the main factor behind the decision to give up the U.S. fund of funds business lies in geographic strategic choices, along with the fact that Amex Bank cannot benefit from the support of an army of financial advisors now part of a soon-to-be spun off and totally separate legal entity, Ameriprise.

"We're going to concentrate our business offshore where we see tremendous opportunities," says Perruchoud, who will remain the global head of Amex Bank's fund of funds business. "The U.S. market is the biggest but also an extremely competitive market in the hands of consultants.

"Europe, Asia and Latin America will grow faster over the coming years," he adds, noting that U.S. pensions and endowments already have made significant allocations to funds of funds while the process is in its infancy overseas.

And yet, with consultants in the U.S. busier than ever, it is clear that interest from pensions, endowments and high net worth investors are not about to fade away. "The growth rate of funds of funds in the U.S. may be slowing but the dollar amounts remain sizeable," says Alan Dorsey, a Darien, Conn.-based consultant with CRA RogerCasey. "The money is still there."

American Express Bank will keep a research team onshore with three U.S.-based analysts in addition to its eight analysts based in Geneva.

On the single hedge fund front, profitability, not corporate restructuring or strategic choices, have made an impact. At the end of June, Amex closed three of its six hedge funds -- a U.S. market neutral, European market neutral and a convertible arbitrage funds, says Johnson. True, convertible arbitrage has not been a booming money-maker lately. But Johnson points to the fact that the issue was more profitability than performance: "We could not grow those funds to a size that would have made them profitable," he says. "And they had good performance at times."

Ameriprise, he says, will continue to develop its single hedge fund business in the U.S by looking for more money and eventually launching new funds with more profitable prospects, he says.

Meanwhile, what's left of Amex's alternative investment business is a $5 billion collateralized debt obligation (CDO) group operated out of Los Angeles; three hedge funds based in Boston, whose size Johnson declined to disclose; a fund of funds offshore platform to be operated out the bank in Geneva. In addition, the acquisition in 2003 of London-based Threadneedle Asset Management brings in house approximately $2 billion in both hedge funds and funds of funds.

Perhaps Amex is on its way to presenting a new model for the industry: consolidation, not organic growth may be the way to go.