Volatility, dealmaking, macro uncertainty pave path for hedge fund performance in 2025

Volatility, increased dealmaking and ongoing macroeconomic and geopolitical uncertainty should put hedge funds in a strong position in 2025. And allocators to hedge funds expect to see a wide range of strategies perform well, especially event-driven and macro.

“It should still be a good environment for hedge fund strategies, because I think there will be plenty of volatility, which is something that we saw starting to emerge (in 2024,) and that's positive for hedge fund strategies,” said Lulu Llano, head of stable value hedge funds at the $211.6 billion Teacher Retirement System of Texas, with $21 billion allocated to hedge funds as of Sept. 30. “There should continue to be dispersion, and then the policy shifts should be good for macro strategies as well. So, we think it's conducive for risk assets.”

And many alternative asset executives are predicting increased deal-making activity and initial public offerings in 2025.

“Event-driven strategies are going to be hot in 2025,” said Joe Dowling, senior managing director and the global head of Blackstone multiasset investing, with $83 billion under management as of Sept. 30. Blackstone as a whole has over $1 trillion assets under management.

Dowling also pointed to macro managers that can exploit dislocations, equity strategies, especially sector specialists across the credit spectrum and quantitative managers as being primed for a rich environment, adding that, “we're going to live in a more volatile world. We're going to live in a world with a lot of crosscurrents.”

Derek Drummond, head of strategy-funds alpha at $166.4 billion State of Wisconsin Investment Board, is also “pretty positively inclined on the opportunity set for next year,” adding that while volatility doesn’t mean alpha, it can be the fuel for alpha.

SWIB has almost $9.3 billion invested in hedge funds and Drummond said challenges in other segments of private market portfolios have cast a favorable light on hedge funds.

“Hedge funds weren't cool for a couple years there,” he said. “It's now a little bit more competitive and allocators are valuing the liquidity that hedge funds have.”

Drummond pointed to a wide range of strategies that could perform well next year, including long/short credit and long/short equity, distressed players, equity market neutral, event-driven, quant and relative value. On macro, he said, “if you have the right players on the field, we think that that should be pretty good.”

Diversification will be key, he noted.

“Next year, we personally are going to run a very balanced portfolio,” Drummond said. “We’re going to probably have slightly above long-range target risk allocation in the portfolio. So, we do think it's going to be a good environment, but you want to be really diversified. We're not actively going after any one particular area more or less than any other.”

Scott Radke, CEO and co-CIO of New Holland Capital, an alternatives manager with a multistrategy offering and a total about $6 billion in assets under management as of Sept. 30, is also expecting a good environment for event-driven strategies.

“There's a lot of pent-up demand for corporate action, whether that's mergers, equity issuance,” he said. “So, a lot of event-related strategies as well as equity capital markets-oriented strategies would do well in that more active environment that we're anticipating for next year.”

And those expectations for 2025 come after an overall strong performance year for hedge funds in 2024.

Hedge funds, on average, returned 10.4% through the end of November, according to PivotalPath’s composite index.

Equity sector specialist strategy hedge funds led the way gaining 18.4% through November, followed by equity diversified managers returning 13.4%, according to PivotalPath.

On the flipside, managed futures strategies were only up 1.9% through November and volatility trading strategies were up 4.1%.

Hedge fund assets under management have reached an all-time high, approaching $5 trillion. At the same time, new hedge fund launches have fallen to a low not seen since at least 2000 with 123 firms setting up shop through September, according to Preqin data.

Hedge fund allocations have diverged to a “barbell approach” over the last year as clients look for “consistency in a world of uncertainty,” said Blackstone’s Dowling.

“Investors have taken a barbell approach to allocating in 2024: it's either been small, specialized players or large-scale players with moats around their business. So, the largest and smallest firms — the barbell — have been the main beneficiaries of inflows,” he said, adding that hedge fund managers running between $100 million to $500 million, which he labeled “the middle,” had “hollowed out.”

Multistrategy hedge funds such as Citadel and Millennium, have been a hedge fund industry growth story the last several years. But there has been some cooling in this segment with many investors already allocated. Even Citadel’s Ken Griffin predicted increased consolidation in the multistrategy segment.

But New Holland’s Radke doesn’t expect to see big changes with multistrategy allocations next in 2025.

“I’m encouraged the returns for multistrategy funds generally have been strong in 2024 and the environment feels fertile for return generation next year, at the end of the day, delivering (a) diversifying source of return in a liquid package is a really valuable addition to people's portfolios,” Radke said. “I think that's what's drawn investors into the multistrategy funds, and there's no reason to think that there's going to be a big shift in that respect.”

And for the Teacher Retirement System of Texas, 2024 marked an industrywide discussion on hedge fund fees and pushing managers to use cash hurdles.

“I would say there's always going to be some exceptions, but we feel good about the progress we've made,” Llano said, adding that managers are now coming “through and are volunteering, ‘Hey, we have this cash hurdle share class,’ so they sort of realized the importance of aligning, especially in the face of a tough asset raising environment, that helps our cause.”

Product development, especially with exchange-traded funds, will be another area to watch for in 2025. In the most recent example, State Street Global Advisors and hedge fund Bridgewater Associates announced they would team up to offer retail investors access to Bridgewater’s All Weather risk parity hedge fund strategy via an ETF.