EQIRA: Empirical and Quantitative Investment Research and Analysis

Hedge Funds Weekly: September 14, 2015

The following is an excerpt from our Hedge Funds Weekly report, which is available in the clients section. If you are not yet a client, please request access.

Hedge Fund Performance

Our factor-based estimates project that hedge funds gained 0.43% last week as long equity exposure nearly erased hedge funds’ month-to-date losses. Our factor-attribution analysis indicates that equity beta contributed 0.53% towards total return, which was sufficient to overcome seven basis points of lost alpha. Hedge funds’ collective month-to-date and year-to-date performance now stands at -0.05% and +0.77%, respectively.


Global Benchmarks

Equities globally were strong last week. Domestically, every style and sector posted gains, except for energy, which fell along with oil and other energy commodities. MLPs continued their long slide downward, losing an additional 4.17%. They are now down 21.56% for the year, one of our worst performing benchmarks. Real estate performed well, adding 2.22% globally and 2.54% domestically. Agricultural commodities and base metals diverged from other commodities, gaining 2.73% and 3.46%, respectively.

Oil (-3.17%) and energy commodities (-2.69%) were among our worst performing benchmarks. Joining them were gold (-1.61%) and precious metals (-1.39%). Domestic bonds finished the week down modestly, while foreign bonds rode currency gains to positive performance.

All of our multi-asset class benchmarks rose. Our global 60/40 and risk parity indexes added 1.28% and 1.66%, respectively. The US versions fared slightly worse, gaining only 1.19% and 1.05%.


Market Factors

Note: we report factor performance using excess returns risk-adjusted to an expected annual standard deviation of 10%.

Short volatility and variance factors returned to profitability after suffering through multiple weeks of steep decline. Short uncapped US equity variance added 3.05% to finish as our best performing market factor. Put and buy writing added 2.05% and 2.00%, respectively.

Commodity beta, oil, and gold were all losers, but medium term momentum and term structure strategies each added in excess of 1%. Investment grade credit underperformed, but high yield relative to investment grade gained 1.02%.

Equities were mixed. Equity beta rallied 1.35%, but most sectors underperformed the broader market. MLPs severely underperformed REITs, losing 2.82%. The spread was our worst performing market factor for the week. As with commodities, medium term momentum strategies worked well.

US Treasuries underperformed across the term structure, but non-government fixed income spreads gained, as did foreign developed government bonds, which were aided by a 0.68% gain in foreign currencies relative to the US dollar.

Foreign exchange strategies performed weakly. FX carry lost 0.44%, momentum lost 0.47%, and value lost 1.91%.

Multi-asset class momentum and trend following strategies were also weak, with one-month momentum declining 1.96% and our aggregate trend following factor losing 1.16%.

Also notable was the underperformance of foreign real estate, which lost 1.15% relative to US real estate and 1.79% relative to foreign equities.


August 2015 Estimate Review

The indexes underlying our hedge fund composite indexes have begun reporting returns for August, which allows us to begin assessing the performance of our end-of-month estimates.

As currently stands, we have correctly predicted the direction of 29 of 30 strategies. Nine estimates are within 25 basis points of the true index return; seven more are within 50 basis points. While our hit rate is above average, our accuracy is a bit below average. This is not too surprising, however, given the volatility and magnitude of last month’s returns.

Our initial estimate for our broad hedge fund index return differs from the current estimate by only seven basis points, which is quite good considering the size of the return. Thus far, we have overestimated performance in 14 strategies, most significantly in Emerging Asia (1.37%), Equity Value (1.11%), and Special Situations (1.11%), and underestimated performance in 16, most significantly in Healthcare (1.60%) and Energy (1.38%).

Overall, our forecasts have resulted in a 92% reduction in variance relative to naïve forecasts of flat returns. The reduction is greater than normal, but again somewhat expected due to the size of the month’s returns.

It thus far appears that we may again see an unusually high divergence in strategy returns between index providers. The current spread between the highest and lowest return in Equity Short-Bias, for example, is a stunningly high 11.21%. The spread is a strong argument in favor of using composite indexes of indexes to evaluate hedge fund returns.


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