Hedge-fund investor Aurora Investment Management is to return the $5.4 billion it oversees to clients over coming months after a takeover of the firm collapsed, according to a letter to investors seen by Bloomberg News.

The move follows the termination of a deal last week under which the Chicago-based firm was to be sold to 50 South Capital Advisors by its parent company, Natixis Global Asset Management. Aurora was started more than 28 years ago by Roxanne Martino and invests in a selection of hedge funds. “After considering a variety of strategic alternatives, we have decided that it is in the best interests of our investors to return the capital in our funds in a manner that will treat all investors fairly and equitably,” Aurora told clients in the letter sent April 22. Ted Meyer, a spokesman for Natixis, confirmed the contents of the letter.

The fund of hedge funds industry is shrinking as clients seek to cut fees to middlemen and instead invest directly. The number of firms operating globally declined to 1,616 at the end of March from 2,462 in 2007, according to Hedge Fund Research Inc. Assets under management decreased by $160 billion to $638.7 billion during the period.

“Allocations to the industry have declined and new strategies have evolved in the 28 years since Aurora was founded, which has made it more difficult to maintain the scale needed to best serve investors,” Meyer said.