The Hatteras Core Alternatives Institutional Fund, L.P. (the “Fund”) outperformed the benchmark as well as the broader equity markets by finishing the quarter slightly down. The Fund’s benchmark, the HFRX Global Hedge Fund Index, posted a -1.9% loss for the quarter. The S&P 500 TR Index finished the quarter down -2.8% and global equities as measured by the MSCI World Index sold off even further down -5.1% with heavy volatility throughout the quarter. The Fund’s Private Investment Strategy bounced back significantly from a rather quiet first quarter to lead all of our strategies and return over 6% for the quarter.
With an overall weighting of 27% and a positive 6.2% return, the strategy contributed significantly to the Fund’s overall performance. The private strategy’s returns over the first quarter were relatively flat; however, the strategy rose with vigor over the spring months reporting a positive 4.1% in May after its positive 2.0% return in April. The quarter’s positive performance illustrates the competitive edge of the private investment approach that not only incorporates higher return potential but also adds a much needed element of diversification away from the public markets.
The uplift in returns over the quarter resulted heavily from the strong performance in the Private Energy strategy. Due to the falling prices of natural gas and overall volatility of commodity markets, many private energy funds have shifted their focus towards unconventional resource plays. These emerging plays are tied to technological improvements in the oil and gas industry and have been a growth driver in domestic oil and gas production. New and evolving technologies such as horizontal drilling, 3-D seismic, and hydraulic fracturing have permitted oil and gas companies to access reserves of previously unrecoverable oil and natural gas. The implementation of these unconventional resource projects is highly capital intensive and require management expertise to execute. Therefore, these unconventional resource plays have presented an opportunity for private energy funds to fill a need where capital market funding is not readily available. These opportunities have resulted in strong returns for our managers illustrating the agile and strategic nature of the private energy sector to opportunistically invest in areas that are not readily available in the public markets.
The other compelling characteristic of our private strategy has been its growing maturity. In the fourth quarter of 2011 quarterly distributions from underlying funds were larger than quarterly contributions to funds. We have seen this trend continue into 2012 as year-to-date distributions represented around 105% of capital contributions1. If this trend plays out and distributions continue to outweigh contributions, cash previously used to fund capital calls can now be opportunistically deployed for liquidity needs or additional investments, thus placing less capital needs on the portfolio from a cash standpoint. The uptick in distributions is also an indicator that the investments are entering a prime period of their life cycle where valuations and exits could accelerate together.
We believe the current environment presents vast opportunities for private equity given public markets continue their volatility and capital market funding becomes less available. With the growing maturity and ample diversification offered in the private asset portfolio, we believe the impact of this strategy will continue to provide excess risk adjusted returns not available in a typical fund of hedge funds or traditional investment portfolio.
Hedge Fund Strategies
Our Hedge Fund Strategy was down -2.9% during the quarter and most of the losses can be attributed to our emerging market and energy themes. These themes were two of our best performing positions during the first quarter but the ramifications of a global economic slowdown clearly hurt some of these higher beta exposures. Our Tactical Trading strategy helped offset the market volatility and dislocation during the quarter and ended as our best performing hedge fund strategy with a significant positive return.
Opportunistic Equity is currently a 31% weight and was down just over -5% for the quarter due to Emerging Markets, Technology and Energy exposures. During the quarter, we allocated to a new global long/short equity manager and we remain bullish on the long term potential of the emerging economies despite the recent price dislocations. In particular, we are emphasizing the emerging market consumer story and we continue to search for other hedged methods to implement this theme.
In addition, our managers have been increasing their gross exposures in anticipation of a more fundamental stock picking environment this earnings season and we are especially bullish on long/short equity as a strategy in the near-term as we believe quality will start to matter again.
Enhanced Fixed Income
Enhanced Fixed Income, at an 18% weight, was down -0.9% for the quarter. We continue to diversify away from Enhanced Fixed Income and more into Tactical Trading and Absolute Return as better volatility mitigators. As such, we have been reducing our distressed debt exposure but we remain bullish on
Structured Credit and RMBS in particular. The recent rally in Treasuries during the quarter created even more opportunities as spreads widened versus RMBS securities.
Absolute Return was down -1.4% for the quarter and is currently a 14% weight. With the near term market uncertainty, we allocated to two new Absolute Return funds during the quarter within our Multi-Strategy and Relative Value sub-strategies. We also reduced our Event Driven exposure within the strategy to further mitigate volatility. Our Multi-Strategy managers continued to add positive returns for the quarter and have been the best performing funds for the strategy since last year.
Tactical Trading, which incorporates managed futures, CTAs, global macro and tail risk strategies, has a 7% weighting and was the best performing hedge fund strategy. The strategy particularly proved its worth during the market dislocation in May and finished the quarter up nearly 1.8% despite a tumultuous June. Our discretionary CTA’s and Tail Risk sub-strategies were the dominant drivers of performance within Tactical Trading and both finished with solid mid-single digit quarterly returns to help offset the overall volatility in the markets.
We believe the second half of 2012 will be much more volatile than the first half and we have positioned the hedge fund portfolio accordingly. A lack of fiscal union in Europe, the pending fiscal cliff facing the U.S., and the overall global economic slowdown could all provide challenging head winds. Our blend of hedge funds and private investments stood up well during the most volatile periods of the quarter and we believe the Fund is well positioned to deliver unique benefits particularly from our private investment strategy. Whereas we are defensively positioned in the hedge fund portfolio, the private investment strategy remains poised to capitalize on a number of exposures.
1. An average age of over 3 years for the underlying private portfolio companies is a significant milestone as exit opportunities in private investments tend to begin in earnest in years three through five. Often these control-oriented, active management style investors are starting to unlock the value they’ve created since their original purchases.
2. Technology investments made not only in our Venture Capital funds but also through Private Energy are opening up new markets despite macro volatility.
3. There is a gap between the public equity markets where values have doubled since March, 2009 and the significant discounts found in private equity companies. This separation will persist but is starting to narrow as M&A activity and IPOs resume like they did in Q2 2012.
As always, we appreciate the confidence you have placed in Hatteras and your investment in the Hatteras Core Alternatives Fund. Thank you again, and if you have any questions please do not hesitate to contact us.
The Hatteras Core Alternatives Fund Investment Team
1. Annualized returns
2. Inception dates: Hatteras Core Alternatives Fund, L.P. and Hatteras Core Alternatives TEI Fund, L.P.: April 1, 2005. Hatteras Core Alternatives Institutional Fund, L.P.: January 1, 2007; Hatteras Core Alternatives TEI Institutional Fund, L.P: February 1, 2007.
Performance results and calculations after the Funds’ most recent fiscal year are unaudited. The principal value of the Funds will fluctuate so that an investor’s units, when redeemed, may be worth more or less than the original cost. Returns are net of all expenses of the Funds, including the management fee and incentive allocations, and reflect reinvestment of all distributions, if applicable. Returns do not reflect payment of the 5% redemption fee or upfront placement fees, which could be up to 2% if applicable, which would reduce the returns shown above. Past performance does not guarantee future results and current performance may be lower or higher than the figures shown. To obtain performance information current to the most recent month-end, please call 866.388.6292. The net expense ratio and total expense ratio for the Hatteras Core Alternatives Fund, L.P. are 2.32% and 6.52%, respectively. The net expense ratio and total expense ratio for the Hatteras Core Alternatives TEI Fund, L.P. are 2.39% and 6.59%, respectively. The net expense ratio and total expense ratio for the Hatteras Core Alternatives Institutional Fund, L.P. are 1.53% and 5.73%, respectively. The net expense ratio and total expense ratio for the Hatteras Core Alternatives TEI Institutional Fund, L.P. are 1.69% and 5.89%, respectively. The total expense ratio for all funds includes Acquired Fund Fees and Expenses of 4.20%. The Investment Manager has contractually agreed to waive fees and/or reimburse certain expenses until July 31, 2012 so that the total annual expenses will not exceed 2.35% for the Hatteras Core Alternatives Fund, L.P., and Hatteras Core Alternatives TEI Fund, L.P., and 1.75% for the Hatteras Core Alternatives Institutional Fund, L.P., and the Hatteras Core Alternatives TEI Institutional Fund, L.P. Please see the current prospectus for detailed information regarding expenses of the Funds.
Note: The portfolio analysis figures offer historical performance for each individual strategy as a composite of the Hatteras Core Alternatives Institutional Fund, L.P. The historical performance shown indicates how each strategy (composite) performed on a stand-alone basis, net of all fees. However, none of the (composite) strategies shown are offered as stand-alone investments. This is not meant to predict or project results into the future, nor is it intended to portray performance of the Funds.
IMPORTANT DISCLOSURES AND KEY RISK FACTORS
This is not an offering to subscribe for units in any fund and is intended for informational purposes only. An offering can only be made by delivery of the Prospectus to “qualified clients” within the meaning of U.S. securities laws. Please carefully consider the investment objectives, risks, and charges and expenses of the Funds (as defined below) before investing. Please read the Prospectus carefully before investing as it contains important information on the investment objectives, composition, fees, charges and expenses, risks, suitability, and tax obligations of investing in the Funds. Copies of the Prospectus and performance data current to the most recent month-end may be obtained online at hatterasfunds.com or by contacting Hatteras at 866.388.6292. Past performance does not guarantee future results.
The Hatteras Core Alternatives Fund, L.P.; the Hatteras Core Alternatives TEI Fund, L.P; the Hatteras Core Alternatives Institutional Fund, L.P.; and the Hatteras Core Alternatives TEI Institutional Fund, L.P. (collectively referred to herein as the "Hatteras Core Alternatives Fund" or the "Fund") are Delaware limited partnerships that are registered under the Investment Company Act of 1940 (the "1940 Act"), as amended, as non-diversified, closed-end management investment companies whose units are registered under the Securities Act of 1933, as amended. The Hatteras Core Alternatives Fund is a fund of alternative investments. As such, the Fund invests in private hedge funds and private equity investments. Hedge funds are speculative investments and are not suitable for all investors, nor do they represent a complete investment program. A hedge fund can be described generally as a private and unregistered investment pool that accepts investors' money and employs hedging and arbitrage techniques using long and short positions, leverage and derivatives, and investments in many markets.
Key Risk Factors:The Fund invests substantially all of its assets in private equity investments that are generally not registered as investment companies under the 1940 Act and, therefore, the Fund does not have the benefit of various protections provided under the 1940 Act with respect to an investment in such private equity investments. Investments in the Fund involve a high degree of risk, including the complete loss of capital. The Fund provides limited liquidity, and units of the Fund are not transferable. General Risks, Special Risks and Investment-Related Risks of the Fund include, but are not limited to, Limited Operating History of the Fund, Limited Liquidity, Reporting Requirements, Non-Listed Status of Units, Non-Diversified Status, Legal, Tax and Regulatory Risks, Underlying Portfolio Funds Not Registered, Portfolio Funds Generally Non-Diversified, Valuation of Portfolio Funds, Multiple Levels of Fees and Expenses, Portfolio Fund Managers Invest Independently, Portfolio Fund Operations Not Transparent, Concentration of Investments, Derivative Instruments, Distressed Investments, Valuation of Illiquid Securities and Derivative Positions, Unspecified Investments, Leverage, Risks of Capital Call Failures, and Limited Selectivity of Investments. The success of the Fund is highly dependent on the financial and managerial expertise of its principals and key personnel of the Fund’s investment manager. Although the investment manager for the Fund expect to receive detailed information from each private equity investment on a regular basis regarding its valuation, investment performance, and strategy, in most cases the investment manager has little or no means of independently verifying this information. The underlying private equity investments are not required to provide transparency with respect to their respective investments. By investing in the private equity investments indirectly through the Fund, investors will be subject to a dual layer of fees, both at the Fund and the underlying private equity fund levels. Certain private equity investments will not provide final Schedule K-1s for any fiscal year before April 15th of the following year. Members should therefore expect to obtain extensions of the filing dates for their income tax returns at the federal, state, and local levels. Please see the PPM for a detailed discussion of the specific risks disclosed here and other important risks and considerations. The foregoing risk factors do not purport to be a complete list or explanation of the risks involved in an investment in the Fund. In addition, as the Fund’s portfolio develops and changes over time, an investment in the Fund may be subject to additional and different risk factors.
Securities offered through Hatteras Capital Distributors, LLC, member FINRA/SIPC. Hatteras Capital Distributors, LLC, is affiliated with Hatteras Investment Partners, LLC by virtue of common control/ownership.