Hedge Funds: Reports of Industry Demise Have Been Greatly Exaggerated

It’s quickly beginning to look like we’re in for another round of hedge fund industry disaster stories. Headlines have already begun to announce the death of hedge funds for the second time this year.

Thankfully, the media can just dig August’s stories out of their recycling bins and do a quick “search and replace” this time - changing the month from “August” to ”November” and the hardest-hit strategy from “Market Neutral” to “Equity Hedge”.

Hedge Fund Research got the ball rolling earlier this week with a dismal month-end estimate from its investable index, the “HFRX”. Unlike the widely quoted HFRI, this index is valued daily since HFR has transparency into the holdings of its cadre of representative managers via managed accounts. Here’s what November looked like for those managers:

The larger, but less transparent “HFRI” takes several weeks to calculate. As a result, the media invariably gloms onto the more timely HFRX results. But curiously, the HFRI outperforms the HFRX - especially when both indices are down. The chart below shows the monthly out-performance of the HFRI over the HFRX during the last 5 years.

In August, the HFRX was down 2.55% while the HFRI was down only 1.54%. So with the HFRX coming within a whisker of August’s drawdown, it will be interesting to see how the HFRI turns out this month. Alas, by the time it does come out, people will have moved on to Christmas shopping and the hedge fund December effect.

Another investable hedge fund index with daily valuations is the Dow Jones Hedge Fund Index. November performance wasn’t as bad for their group of managers, and as at the HFRX, Equity Market Neutral managers had the last laugh.

The Dow Jones Indexes were down an average of about 1.25% in November (vs. approximately 0.9% in August).

The investable MSCI “Hedge Invest” Index was down about 1.6% in November (vs. down around 2.25% in August).

And finally, the Morningstar long/short category was showing a trailing one-month return of -0.16% as of December 5 (nearly 1% better than in August).

So take your pick from this cornucopia of different results. There’s a performance story here for every angle, including this one: hedge funds outperformed the S&P by over 2% in November.

Comments

[Brian Croner]

I was way off with the hedge fund estimations, if the above numbers are more or less correct.

Are those cooked numbers? I can't imagine that they are fully correct. Unsustainable earnings?

Hedge funds seem to mirror the corporate trend of merging [and acquiring]. Since the quantity of capital gives the quality of the capital, capital systems under distress exhibit consolidation much like a semiconductor industry yielding slim profit margins. Big hedge funds can pull more than small ones. Some of these have nasty huge numbers to play with. I can't even imagine the amount of evil that can be inflicted with the 11 digits of volatile, reactive liquid solvent ready to capture equity solutes and turn these very large lakes into streams and rivers.

But I still strongly question the future of any optimistic numbers like these. We are rapidly approaching recession in America. In fact, I believe we're in recession. That's not bound to be good for hedge funds. Goods and services shrink, meaning less equity for the capital, and what are hedge funds but lakes of capital wanting of equity?