money

Equity hedge funds must ‘Put up or shut up’ amid volatility

Stock funds have struggle to hold onto assets as investors shift to low-cost passive products

Bloomberg
13:26 April 14, 2018

It’s make-or-break time for equity hedge funds after years of poor performance.

Stock-pickers have lamented that calm markets and not enough disparity in equity prices have hindered their ability to make money. They haven’t beaten the stock market annually in almost a decade. Industry titans like John Griffin and Alan Fournier have closed down.

But now that volatility is back and fiercer than it’s been in years, hedge funds can no longer blame calm markets for their woes. A raft of issues — rising interest rates, potential trade wars, a possible Facebook crackdown — will likely keep stock prices moving more freely, giving managers ample opportunity to profit on the swings.

“It’s really now or never time,” said Troy Gayeski, senior portfolio manager of SkyBridge Capital, which runs about $6.2 billion and invests in hedge funds. “You’ve got to put up or shut up.”

Some managers are delivering the goods. Marshall Wace’s Eureka fund gained 4.1 per cent in the first quarter while Tiger Global Management rose 6.7 per cent, according to people with knowledge of the firms.

Others are not. Larry Robbins’s Glenview Capital Management sunk 7 per cent in the period, while David Einhorn’s Greenlight Capital lost about 14 per cent in his main fund, people said.

Correlations break down

The break-up in the correlation of stock prices has finally arrived for equity managers. Correlation, a measure of how closely equities move in lockstep, had been high for years, making it harder to wager on price differences.

That’s no longer a problem for hedge funds. A rolling 65-day gauge of correlations in the S&P 500 Index shows they began to fall sharply in March 2016 and by January of this year reached the lowest point since 2000, according to research compiled by Wells Fargo & Co.

“There’s a direct tie to when correlations started breaking down and when the Federal Reserve started raising rates in December 2015,” said Adam Taback, deputy chief investment officer for Wells Fargo Private Bank. “Continued rate hikes will mean earning results will vary more and that’s going to create higher dispersion and active ground for hedge funds.”

Dispersion, or the magnitude of the difference between stock prices, has begun to widen too. An increase in dispersion started last year — when 40 per cent of stocks in the Russell 2000 Index fell, while 34 per cent of equities rose more than 20 per cent — and it’s only getting stronger, Taback said.

In the first quarter, many equity funds reaped the benefits of a changing market. On average these funds gained 0.6 per cent, beating the S&P 500 for the first time since the third quarter of 2016, according to Hedge Fund Research.

Stock funds have struggled to hold onto assets as investors shift to low-cost passive products like exchange-traded funds rather than pay high hedge fund fees. Equity managers suffered $5.4 billion in redemptions last year, the second-worst among the main strategies, according to Hedge Fund Research.

Mark Jurish, head of hedge fund investing and seeding at Fiera Capital, says 2018 could be a year of recovery.

“We could see a survival of the fittest situation, which makes it perilous and advantageous at the same time,” he said. “But if equity markets are choppy, as we expect they’ll be, and hedge funds prove themselves, people would flood back to the industry.”