'Divergence' has replaced 'convergence' as a watchword in the theme that formerly saw hedge funds encroaching on the world of private equity. Having donned private-equity mantles of illiquid deals, the credit crisis has shown that the new clothes of the Empress are transparently wrong.  

In a panel at Hong Kong's GAIM conference, moderated by AsianInvestor's own Jame Dibiasio, industry experts pointed out the gaping holes in the convergence fashion which became apparent as the easy exit routes to deals dried up.  

"There has been too much convergence -- and a lot of investment in China in the last two years has on occasions been destructive," says Andre Loesekrug-Pietri, the managing partner at CEL Partners, Europe's first China dedicated private equity fund. "There was a sense of urgency, looking to flip deals rather than build businesses and understand people."

Private equity is pointing fingers at what it perceives to be hedge fund parvenues in its arena, who they think have barged in, trying to get opportunistic upside without paying their dues. Private equity investors perceive themselves as value creators and see hedge funds as value finders, and that even though hedge funds may be present in their deals, there is a divergence in the modus operandi between the way the private equity and the hedge funds manage their positions.  

So where is the divergence? Fees are one area where private equity sees unfairness.  

"There is a divergent approach to fees," says Mark Shipman, a Hong Kong partner of law firm Clifford Chance. "Private equity charges fees on realised gains, there are clawbacks and hurdles. Hedge funds appear to have it easier, usually with no hurdles and clawbacks and can charge performance fees on unrealised gains. Larger investors are trying to redress this, yet new hedge funds that we talk to are still seeking to charge 2% and 20%."  

Structures are a second area where the convergence/divergence theme is perverted, and thrown into further sharp relief by the increasing illiquidity and under-wateriness of positions that hedge funds have taken on. If the hedge fund didn't have a convenient side pocket into which they could plonk their soggy investment, their options (other than quickly creating a side pocket) are all slightly unsavoury to investors, such as distributions in kind or shares in a spun-out SPV, gates or redemption suspensions.  

"If hedge funds want to be in the private equity area, they should adopt the relevant structures and hire the right teams," says Edmond Ng of Hong Kong fund of private equity funds house Axiom Asia.  

So, convergence has not really been homogenous, and private equity investors think that this is because hedge funds have cut corners in trying to play their game. Any further movement towards convergence in this theme is not just going to be about wearing the costume of private equity, but about having the rigging underneath. In the fashions on the catwalk, that means no side-pockets, and no open-ended structures.