Hedge Fund Returns Didn't Fail To Disappoint In 2005

by Phillip Morton, Investors Offshore.com

04 January 2006

Confirming the view held by many analysts that 2005 would be a year to forget for most hedge funds, figures have revealed that average hedge fund returns dipped below 7% for the year in stark contrast to the double digit returns achieved by the alternative investment sector during the last equity bear market.

According to CSFB/Tremont, which tracks the performance of about $800 billion worth of hedge fund assets, the average return of all hedge funds through the end of November 2005, the latest date for which figures are available, stands at 5.9%, and when modest gains for the month of December are factored into the total equation for the year, the average annual return is expected to reach 6.62% - a fall of 3% compared to returns achieved in 2004.

However, the average figure does not tell the whole story and there were wide variations in performance across the spectrum of hedge fund strategies. For example, investors in dedicated short equity strategies - those that bet on the falling value of stocks - would have achieved returns of 19.3% during the eleven months to the end of November 2005. This represents a substantial swing from 2004 when such strategies lost on average 7.7%, CSFB/Tremont data shows.

Emerging markets funds, while volatile, have also produced strong returns in this period, and are up on average by 14.6%, topping the 12.5% returns gained in 2004. Meanwhile, global macro, which bet on global macro-economic trends, had gained 7.6% on average by the end of November compared to 8.5% in 2004. Event driven strategies were up 7.4% (up 14.5% in 2004) and long/short equity up 6.7% (up 11.6% in 2004).

At the other end of the scale, managed futures funds had gained just 2.5% by the end of November, against returns of 6% in 2004, risk arbitrage strategies were up 2.2% (up 5.5% in 2004), fixed income arbitrage up 0.2% (up 6.9% in 2004) and convertible arbitrage lost 3.5% compared to a 2% gain in 2004.

As overall hedge fund returns have dwindled, so to has the amount of new money placed into hedge funds. Following a record $120 billion in hedge fund inflows during 2004, investors placed about $60 billion into hedge funds during 2005.

"2004 was a record year, with never seen before figures, but investors got 4%-5% after performance fees and put the brakes on", observed Oliver Schupp, the head of investment bank Credit Suisse's hedge fund index, according to London's Daily Telegraph.

However, Mr Schupp noted that investors have tended to take a "short-sighted view" of hedge funds because they have been unable to repeat the stellar performance of previous years.

"The different segments are very much dependent on the different markets," he stated.

A lack of volatility last year also depressed hedge fund returns, while Mr Schupp noted that, in the United States at least, correlation between hedge funds and equity markets has risen over the last year and a half where markets have struggled more than in other areas of the world such as Europe and Asia.

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