With markets going through yet more
gyrationssparked partly by the S&P downgrade of U.S.
Treasury securities and amid recurring concerns about European
sovereign defaultsmany investors will no doubt have spent
an anxious August holiday. Many will have been thinking: Are we
about to witness a rerun of late 2008?
It is not a pretty thought. Last time, after Lehmans
collapse, a complete meltdown was averted only by a huge
bailout of the banks by Western governments. This time, the
governments themselves are teetering, and nobody, it seems, has
the resources to bail them out.
For the hedge fund industry, 2008 was in many ways an annus
horribilis. It was a year when the HFI Composite median did not
look that bad (down only about 7%) but when mean average
returns were down more about 15% to 20%. And it was a year when
many individual funds angered investors by gating or suspending
Yet 2008 was also a yearas I argued strongly at the
timeof many heroic individual performances. A significant
minority of funds were up, including some in almost every
strategy area. For instance, Brevan Howards flagship
macro fundthe biggest hedge fund in Europe with assets of
more than $20 billiondelivered a terrific return above
22%. And Horseman Global Fund, then one of the worlds
biggest global equity funds, gained more than 31%.
In 2008, one strategy in particularmanaged
futuresdemonstrated a true capacity for noncorrelated
returns, with the average CTA rising an impressive 15% to 20%.
Many were up by a lot more, led by funds like BlueTrend, the
BlueCrest Capital Management systematic strategy, which gained
more than 44%.
Overall, hedge funds were down in 2008, but with returns
still much better than the equity markets (which fell about 30%
In 2009, performance was also pretty strong. Having
protected investors from at least some of the downside in 2008,
hedge funds also captured most of the recovery, with the HFI
Global Composite median up by more than 12% (and mean average
returns closer to 20% if you exclude the CTAs). In 2010,
returns were not so exciting but again pretty respectable, with
the HFI Composite median at close to 8%.
The most disappointing period of performance, arguably, came
most recently, during the first half of this year, when hedge
fund returns on average were more or less flat. In that period,
hedge funds delivered little or no absolute return and did not
outperform equity markets either, as many managers appeared to
get repeatedly wrong-footed by whipsawing patterns in the
markets. That left performance so far this year looking
uncomfortably similar to 2008, when hedge funds also had a flat
first half, which led into six straight months of negative
returns that year (from June through November).
In short, the marketsand returns so far this
yeardo not look pretty. Just how tough it has been is
perhaps best reflected in reports that even George Soros,
arguably the most talented fund manager in history, had
liquidated most of his positions, even including exposure to
gold, and gone mainly to cash.
On the other hand, where there is great difficulty, there is
also opportunity. And if markets do go through another period
of upheaval and convulsion, hedge funds should get a chance
again to shine, just as in 2008, when a significant minority
truly did deliver.
One might expect that some of the same sorts of strategies
that worked in 2008such as the CTAs, global macro and
volatility playerswould work again in similar
circumstances. But if there are sovereign defaults, then there
may be new and unforeseen sorts of market dislocations.
However, there may also be other strategies that excel next
timeincluding long/short equity funds and/or credit,
distressed debt and multistrategy hedge funds, who may well be
able to seize a once-in-a-lifetime opportunity.
I do not dare to predict who will do well. That is more
properly the job of professional allocators, including the
funds of funds, who may also have a huge opportunity to prove
their worth (and in some cases, redeem themselves after a poor
2008) by picking the winners in the coming period.
It does look like a rough ride ahead. It could be a crucial
test not merely for hedge funds but for the whole western
system of capitalism. After so many crises and major market
eventsfrom the dot-com bubble to the Lehman
collapsethis sovereign debt crisis could prove to be the
ultimate stress test.
Nevertheless, I still firmly believe that there are hedge
fund managers who can and will demonstrate the ingenuity and
skill to navigate through this period ahead. It will be very
interesting to see how many can do it and which ones they will