Editor’s Letter

November/December 2012


Most strategies are now in positive territory for 2012, with the exceptions so far being managed futures and dedicated short sellers. However, it is difficult to find any hedge fund strategy index up by a double digit percentage; the (non-investible) Dow Jones Credit Suisse fixed income arbitrage index was perhaps closest, up 9.77% for the year to October. Broad hedge fund aggregates are ahead by 5% or 6%, which would seem to lag some way behind long run averages between 9% and 11% dating back to the early 1990s. Yet risk free rates are near zero in most developed markets, and have even turned slightly negative for certain short dated, safe haven government bonds. Set in this context, 2012 returns thus far represent a spread over cash that is consistent with historical levels. If central banks are correct to project that interest rates will stay lower for longer, investors may need to grow accustomed to lower headline numbers that still provide some premium over inflation – and then some more over dormant cash. What happens when and if interest rates ever rise?

Investors of course seek hedge funds for diversifying returns. Some contend that the main portfolio insurance benefit of managed futures has arisen from trend followers being long of bonds, during a 30 year bull market. In fact managed futures have been more reliable diversifiers than have bonds. According to AIMA’s Roadmap To Hedge Funds – 2012 Edition, authored by Alex Ineichen and produced with the support of Deutsche Bank, 30 year Treasuries only produced positive returns over 9 of the worst 20 periods for equities between 1980 and 2012. Managed futures, in contrast, delivered the diversification goods in 18 of those 20 instances. We could conjecture that perhaps trend funds might have started getting short of Treasuries in 1994, when the Federal Reserve’s series of rate rises took many investors by surprise. So, if bonds are approaching their apex of performance, investors need not write off CTAs, some of which, such as Man Group, anyway say they have capped their long bond exposure. Another strategy looking like Cinderella this year – merger arbitrage – was also amongst that lonely list of strategies staying above waterback in 1994.

If contrarians might gravitate towards the under-performing strategies of 2012, other investors may feel very happy to stick with winners. Credit in general seems to be into the fourth year of positive returns, and many hedge funds neutralize the interest rate duration exposure here either by hedging it out or simply by investing in floating rate related assets. Some of the most experienced investors in this space are excited. Michael Hintze of CQS claims that some loans and debt are “totally mispriced”. Other investors agree that value resides in asset backed and structured  credit.

Even if hedge fund industry assets have multiplied by factor fifty since 1990 to two trillion dollars, AIMA’s Roadmap reminds us that this tally is still dwarfed by the tens of billions under any one of mutual fund, pension fund, or insurance company umbrellas. There is plenty to play for in 2013 and beyond.