It's been a while, but hedge funds are interesting again. Rising rates, increased volatility and persistent inflation have created dispersions across both equities and credit, giving hedge fund managers something to trade.
Investors also are taking a renewed look at hedge funds as they look for ways to take advantage of new investment opportunities and position portfolios more defensively. Yet, despite these tailwinds, hedge funds remain under pressure.
Hedge fund performance is hardly a monolith. Last year, hedge funds were down 4.14% (vs. returning 10.16% in 2021), according to the HFRI Fund Weighted Composite index, but that doesn't mean they were down in every portfolio. And the variance in return is creating unique dynamics for institutional investors. Year-to-date through Sept. 8, the index is up 4.7%.
"At a high level in the institutional space, there are some clients who are taking a fresh look at hedge funds having either not invested or reduced allocations in the recent period up until last year," said Jack Springate, co-head of the external investing group hedge fund strategies business at Goldman Sachs Asset and Wealth Management. "There are also some clients in the institutional space who have had hedge fund allocations that outperformed the rest of their portfolio by such a degree last year that they had to rebalance. It's the first time in my career I've seen investors redeem from hedge funds after really good performance because of a need to rebalance in this way."
Steven Wilson, director, public markets, at the $185 billion Austin-based Teacher Retirement System of Texas, who is responsible for the system's $9.1 billion stable value hedge funds portfolio, said in emailed comments that the "market-neutral hedge fund program made over $700 million last year. We sent all of that plus another $900 million back to the pension plan to help meet cash needs and fund new beta sensitive investments that were 'on sale.' We have not changed our strategy mix but the bar for a new manager is higher now. With our program at target, there is less hiring in general, and the incumbent managers that survived last year's culling are among the strongest in the industry."
Bill Li, MassPRIM's director of portfolio completion strategies, also reported positive hedge fund performance (4.5%) in the latest fiscal year, but has observed performance gaps over the past year that have been significant, he said.
"During the past year, the hedge fund industry itself had been trying to navigate a chaotic market," Li said in comments last month to the Massachusetts Pension Reserves Investment Management's board, shared with Pensions & Investments. "Despite a flat industry return measured by HFRI Asset Weighted Composite, underneath the surface, dispersion was tremendous. To put that into a context, year-to-date alone, the gap between the average top-decile performer and the average bottom-decile performer had been as high as 36%. Against this dispersed reality, for hedge fund investors like us, manager selection is absolutely critical, Li said.
Boston-based MassPRIM has about $96.6 billion in total assets and about $7.4 billion in hedge fund assets.