Almost all of the hedge fund strategies in the Edhec universe except emerging markets and short selling fell short of their long-term average performance. This was particularly true for directional strategies such as Long/Short Equity, Global Macro, CTA Global and Convertible Arbitrage, which even posted negative returns.
Convertible Arbitrage funds achieved returns of -0.90% over the month of January, which is way below their historical average. This negative return might be explained by the extremely low level of stock market volatility – i.e. the lowest since November 1995 – declining equity markets and sluggish bond markets. The stabilization of the credit spread after a 4-month trend of spread narrowing also contributed to this bad performance (i.e. the worst since June 2004).
After a good year-end, CTA managers posted a strongly negative return in January (-1.95%). CTA is therefore the worst performing strategy this month. This performance was obtained in spite of bearish stock markets and booming commodity markets, which are typically favourable to CTA managers. The low level of stock market volatility and currency reversal appear to be the main factors driving this poor performance.
Distressed Securities funds returned 0.40% in January. The declining stock markets and the extremely narrow spread between small caps and large caps significantly hampered the performance of Distressed Securities funds this month. The stabilization of the credit spread after a 4-month trend of spread narrowing also contributed to this poor performance. Fortunately, stock market volatility remained at historically low levels and the credit spread was particularly narrow, preventing Distressed Securities funds from achieving even more disappointing performance. Nevertheless, it should be noted that for the 8th consecutive month, these funds posted a positive return.
Emerging Markets hedge funds posted a return of 1.03% in January, allowing Emerging Markets funds to obtain their 6th positive performance in a row. This is all the more impressive in that Emerging Markets funds succeeded in beating their long-term average return despite relatively unfavourable stock and bond market environments.
Equity Market Neutral funds showed sound returns of 0.73%. This performance is roughly equal to the historical average, even though it was clearly hampered by extremely low levels of implied volatility and the particularly narrow small cap/large cap spread. However, the low level of credit spread (i.e. the lowest since February 2000) and the flattening of the yield curve (i.e. the flattest since August 2001) came as good news for managers in this strategy.
Event Driven funds posted a disappointing 0.18% return in January. The declining stock markets, the tight spread between small caps and large caps and the end of the decrease in the credit spread explain this poor performance. Low levels of credit spread and implied volatility could only prevent Event Driven managers from posting a negative return. However, it is worth noting that this is their 6th positive return in a row.
Fixed Income Arbitrage funds showed returns of 0.49%. This performance is roughly equal to the historical average, and is the 18th consecutive positive performance for the strategy. This performance was obtained in a context of low volatility and narrow credit spreads, which are typically favourable to Fixed Income Arbitrage managers. The flattening of the yield curve prevented Fixed Income Arbitrage managers from beating their long-term average return.
Global Macro funds posted a disappointing -0.38% return in January, putting an end to a series of positive returns. Macro managers suffered from negative returns in the equity markets and the mixed performance of the bond markets. They also had to make do with a narrow spread between small caps and large caps and a stabilization of the credit spread after 4 months of decline. Low volatility and narrow credit spreads in both these markets could only help them reduce their losses.
Long/Short Equity funds posted a disappointing -0.53% return in January, putting an end to a series of positive returns which started at the end of Q3 2004. The falling equity markets together with the tight spread between small caps and large caps and the end of the credit spread down-trend strongly affected the performance of Long/Short Equity funds. The low level of volatility and the narrow credit spread could only help them limit their losses.
Merger Arbitrage managers posted a disappointing return of 0.06% on average in January. In addition to the decline in equity markets and increasing short-term interest rates, the spread between small caps and large caps, though positive, remained extremely narrow, contributing to the poor performance of Merger Arbitrage funds. The flattening of the yield curve together with the low level of volatility and the narrow credit spread only allowed them to remain in the black. They therefore succeeded in posting a positive return for the 6th month in a row.
Relative Value hedge funds posted returns of 0.12% in January. The poor market conditions were the principal determinant of this low return.
With a return of 3.35%, short selling is the top-performing strategy in January. This does not come as a surprise, as they typically take advantage of market declines. This excellent performance puts an end to a series of 4 negative monthly returns.