Hedge funds: The tide is turning

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NEW YORK (CNNMoney.com) -- Investors have been putting money back into hedge funds over the last three months as the worst of the credit crisis appears to have passed, but analysts say a return to the industry's heyday is not likely.

For the first time since December 2007, more money has flowed into hedge funds than has been redeemed for three months in a row, data from HedgeFund.net showed Friday.

In July, investors put $6.7 billion into the risky investment vehicles. That came after a more robust $19 billion inflow in June and $16 billion in May.

The slowdown in July came as investors took "more of a wait and see attitude," said Peter Laurelli, head of hedge fund industry research at Channel Capital Group Inc., which operates HedgeFund.net.

"However, I suspect the July performance may have influenced some of those sitting on the sidelines, and I would expect to see modest positive inflows again in August," he said.

Assets managed by the 7,100 funds in HedgeFund.net's database rose 2.6% in July to $1.84 trillion, driven by strong gains in stock and commodity markets.

The renewed interest comes as the financial markets have rallied broadly from the lows hit in March and the most dire economic scenarios have been largely ruled out.

"Investors in general are becoming more optimistic," said Nadia Papagiannis, a hedge fund analyst at Morningstar. "That's part of why we're seeing inflows now."

May was the first month in which Investors put more money into hedge funds than they pulled out since September 2008, when the collapse of Lehman Brothers sparked a mass exodus from the hedge fund industry.

Still, the amount of money flowing back into hedge funds pales in comparison to the amount pulled out earlier this year.

In April, nearly $60 billion flowed out of hedge funds, which eclipsed the inflows in the following months and contributed to a net outflow of $25 billion for the whole second quarter.

A total of $255.5 billion flowed out of hedge funds during the first three months of the year.

Looking ahead, investors are expected to continue putting money back into hedge funds, although on a small scale.

"The trend is going to be money flowing into hedge funds," Papagiannis said. "But it's not going to be as strong as it was before the credit crisis."

That's because many hedge funds were stuck holding illiquid assets during the credit crisis, and investors, including large institutional funds, could not access their money when they needed it most.

Now, investors are looking for investment vehicles that offer more liquidity and are shying away from strategies that involve a high degree of leverage, which hedge funds are known for, according to Papaginnis.

Leverage involves using borrowed capital to maximize the return of an investment. But the financial crisis showed that leverage can result in spectacular losses when markets unexpectedly turn.

Still, hedge funds remain a viable option for investors looking for strategies that other vehicles don't offer, Papagiannis said.