A Strong 2010 for Hedge Funds

Strong performance across hedge fund styles in 2010.



Note that this was a year when most asset classes had strong years, including equities (S&P 500 was up ~15%), fixed income (the BarCap Agg was up ~6.5%), and commodities (DJUBS Commodity index was up ~17%).

Source: Barclay Hedge

Hedge Funds Snap Back in July

Source: Barclay Hedge

Hedge Funds Remain Under Pressure

Another tough month for hedge funds...



Not a huge surprise given June's equity market performance (as detailed in the previous post What is an Investment in Hedge Funds?)

Source: Barclay Hedge

What is an Investment in Hedge Funds?

With the equity market selling off broadly in May, it should come as no surprise that hedge funds also underperformed across the board...



Why?

They have historically exhibited a very strong relationship to equities (especially in recent years when the level of assets managed have spiked). The chart below shows the relationship between the S&P 500 and the broad Barclay Hedge Fund Index (i.e. not just the 'equity long bias' sub-sector index) going back 10 years.



What hedge funds have been able to do (as can be seen above) is "hedge" some of the downside risk through diverse allocations outside of traditional asset classes, while maintaining the "upside" beta to equities when equity markets have rallied. As a result, rather than pure absolute return vehicles (very few are), hedge funds can simply be thought of as very good deep value equity managers (that can also diversify into other asset classes).

Case in point... through the art of data mining, I found a fund (the First Eagle US Value Fund [FEVAX]) with a strong 9 year track record. I am not vouching for this fund, I do not own this fund, and I have not researched this fund thoroughly (though I do have a TON of respect for Bruce Greenwald, the director of research of the fund), but for this exercise simply note that it has performed exceptionally well (and very in line with the broader Barclay Hedge Fund index) since its October 2001 inception.

Returns of Barclay Hedge Fund Index, First Eagle US Value Fund, S&P 500



What's my point?

The hedge fund world has gotten so large that there is no way that all (or even most) provide consistent pure 'absolute ' return or even exhibit low correlation to equities. As the hedge fund universe grows and becomes a larger part of the broader market, it becomes increasingly difficult to do.

Instead, the broader hedge fund community should admit what they are... managers of equity beta that have outperformed significantly over the years in part by being able to take a longer view on their investments than a daily liquidity fund, in part by not having to manage to an under-performing benchmark, and in part by being exceptional managers of the equity asset class.

Source: Barclay Hedge / Yahoo

Hedge Funds Show Continued Strength in April

In what can broadly be described as PR for Paulson & Co rather than an article, the WSJ details (Paulson & Co references removed):

Hedge funds returned more than 1% on average in April as stock and bond markets rallied strongly, according to early estimates released Friday by firms that track performance in the industry.

"Hedge funds posted broad-based gains in April as sovereign credit risks escalated and currency adjustments remained at the forefront of investor concerns," Kenneth Heinz, president of Hedge Fund Research, said in a statement.

Important to remember that...

These hedge fund industry gains don't include the recent drop in stock and credit markets that turned into a rout on Thursday.

We shall see how well they were able to react in next months release.

Source: Barclay Hedge

Hedge Funds Roar in March

EconomPic detailed last week that an assortment of hedge fund managers earned more than some of the largest corporations in the world in 2009. It looks like March may have been the launching pad for some nice paydays for 2010.



Source: Barclay Hedge

Hedge Funds Off to a Slow Start in '10

Yes, I understand one month is merely a blip, but hedge funds had their worst month (in aggregate) since February of last year according to Barclay Hedge.



By Strategy


Source: Barclay Hedge

Hedge Funds More than Fine in '09

Hedge fund returns were off the charts in 2009 across strategies...

Or were they? Per the NY Times (hat tip Abnormal Returns):

Taken at face value, historic index figures suggest that even an average hedge fund manager can easily beat the stock market while taking less risk. Since 1990, a weighted index of hedge funds has returned around 12 percent annually — about four percentage points more than the returns for the Standard & Poor’s 500-stock index — with just half the volatility, according to Hedge Fund Research.

On closer inspection, these claims look suspect. Research published in late 2007 by the Princeton professor Burton G. Malkiel showed that many hedge funds simply stopped reporting results after they became embarrassing. For funds that ceased reporting, the average monthly return in the six months before they did so was -0.56 percent. That contrasts with an average monthly return of 0.65 percent during their reporting lives.

My guess is yes, results were off the charts, just not as off the charts as the numbers suggest. How large a discrepency? Back to the NY Times:

For another piece of evidence, consider Hedge Fund Research’s investable Global Hedge Fund Index. Because this tracks real money invested in hedge funds, reporting vagaries ought to be less of an issue. Sure enough, the index has underperformed Hedge Fund Research’s broader theoretical benchmark in each of the last seven years, typically by a meaningful margin. In 2009, a recovery year for hedge funds, the investable index rose around 13 percent year compared with 19 percent for Hedge Fund Research’s voluntarily reported index.

Source: Barclay Hedge

Did We Learn Anything? Carry Trade Edition

In theory, it does look like hedge funds are BACK, though it is a bit concerning that EVERY strategy (except those neutral or short equity beta) has been a winner. Back to this in a moment...



While many hedge funds make claims that they don't have any equity beta and the returns are alpha driven, as a group that is certainly not the case. That said, over the long term these funds have done exceptionally well, providing equity like returns when equity markets were up and dampening the downturn when equities sold off.



The problem for hedge funds comes when the correlation among all risk assets approaches one (i.e. the EVERY strategy performing in line issue - see the reverse of the top chart from last November). When 'all assets' sold off in the Fall of 2008, leverage became an investors worst enemy as it meant forced selling to meet liquidity needs. It was only the MASSIVE injection of liquidity from the Fed that stopped the risk asset sell-off downward spiral that had the potential to take out any and all levered investors (along with hedge funds, we can throw banks, endowments, and even homeowners in the mix).

My concern now is that it appears we haven't learned anything from the turmoil that happened all of 8-12 months ago. As Nouriel Roubini recently pointed out, the correlation of all risk assets has approached one as all assets have all moved in one direction... up.

Why? One reason is the world's investors are turning to the US dollar for their carry trade currency of choice (if you haven't read it yet... READ IT). At a high level it goes like this... the dollar's decline is a one way bet. So why wouldn't a foreign investor:

• Borrow the dollar at a 0% rate
• Plan to pay the dollar back at some point in the future when it is worth 10-20% less in their local currency
  
• Use that money to invest in ANY risk asset (as long as the asset doesn't lose more than the gain on the dollar short, the investor wins... so why not ratchet up the risk?)

The issue is that at some point the dollar will stabilize (or gain in value), increasing the "real" cost of borrowing the dollar.

BUT... if the correlation of assets purchased is near one on the way up, it is sure as hell going to be that high or higher on the way down. And what happens to all these investors that are attempting to leave the same exit door at the same time? Massive re-purchasing of the dollar and massive selling of any risk asset... joy.

Source: Barclay Hedge

Hedge Funds: Up, Up, and Away

Source: Barclay Hedge

Hedge Funds Continue to Shine in '0-9

Source: Barclay Hedge

Hedge Funds are "en Fuego"

Source: Barclay Hedge

Hedge Fund Performance Since '02

Monday we took a look at performance of the various hedge fund strategies for June and YTD 2009. Below is a chart showing performance going back to 2002 (all the data I could find).



While these returns on an absolute basis are not exceptional, they do dwarf equity returns over that same time frame.

Maybe you do get what you pay for?

Source: Barclay Group

Hedge Funds Continue to Outperform Equities

Source: Barclays Hedge

Hedge Fund Rebound Continues

April



YTD Through April



Source: Barclay Hedge

10% on Top of 2 and 20% No Longer Sensible?

FT Alphaville reports:

In its latest findings, Hedge Fund Research, an industry data provider, estimates investors redeemed up to $104bn from hedge funds in the first quarter, versus the record $152bn withdrawn from the industry in the fourth quarter of 2008. The first-quarter figure makes up some 7.4 per cent of industry assets.

However, here’s the clincher: withdrawals from ‘fund of hedge funds’ specifically totalled $85bn in the first quarter — that far exceeds the fourth quarter 2008 redemption of $50bn and accounts for the majority of capital withdrawn from the hedge fund industry overall.

Hedge Fund Returns (March)

A bit busy, but the chart below shows March and YTD returns through March. All bar charts show absolute returns (i.e. Emerging Markets returned 5.54% in March and 1.25% YTD).



Source: Barclays Hedge

Hedge Fund "Out" Performance (February)

Don't look now, but hedge funds are GREATLY outperforming the equity market.



Source: The Barclay Group

Hedge Fund Returns (January)

These returns compare very well to the -8.4% return in January for the S&P 500.



Note that I removed the Equity Short Bias Index from the above chart (as of yesterday it had only 1 data point and was down 9% which looked funny considering equities sold off).

Source: Barclay

2008 Hedge Fund Breakdown... Where's the Hedging?

Naked Capitalism points out the troubles ahead for hedge funds (the crazy thing is the poor returns all around may save them):

It is hard to work up much sympathy for newly-less-well-off hedge fund managers, given how rich the good times were. Nevertheless, they face continued pressure from redemptions, and (for most) high water mark provisions mean that they will probably get no or little in the way of upside fees (the 20 of the "2 and 20" formula) this year.

In the past, when that happened to hedge funds, they often imploded, as did Julian Robertson's Tiger Funds, because the staff decamps to funds where the funds aren't in a performance/fee hole and they stand to share in fat performance fees. But with the whole industry contracting, and many funds suffering fee pressure, mobility is not likely to be great.

Source: Barclays Capital