Hedge Funds Lick Wounds After Record Investor Withdrawals

by Phillip Morton, Investors Offshore.com

22 January 2009

The hedge fund industry concluded the most tumultuous year in its history with investors withdrawing a record USD152bn in capital in the fourth quarter of 2008, according to data released on Wednesday by Hedge Fund Research, a leading hedge fund data provider.

The HFRI Fund Weighted Composite Index fell by 18.3% for all of 2008, only the second calendar year decline since 1990. Also during 2008, the industry experienced a period of six consecutive months of declines between June and November, interrupted only by December’s 0.41% gain, including a concentrated, volatile two-month period in September and October in which the cumulative decline approached 13%. With performance down and volatility up, investors withdrew a record USD155bn during 2008, only the second time in which the industry experienced a net outflow of investor capital over a full year period since HFR began tracking asset flows in 1990.

This capital outflow followed a record year of capital inflows in 2007, during which USD194bn of new capital came into the industry. When combined with the negative performance-based asset flow, total capital invested in the hedge fund industry declined to USD1.4 trillion at the end of 2008, a decline of USD525bn from the peak of USD1.93 trillion, recorded at mid-year 2008. Investor redemptions were widespread and indiscriminate across fund strategies, regions, asset sizes and performance dynamics.

Dislocations and sustained volatility across financial markets contributed to record dispersion between individual funds and between fund strategies in 2008; while the bottom 10% of all funds declined an average of 62%, the top decile of all hedge funds gained an average of 40%. The HFRI Equity Hedge Index declined 26% for the year, performance that spurred USD55bn in capital withdrawals from the strategy. The HFRI Macro Index gained 5% for the year, but Macro funds still experienced net redemptions of USD31bn. The HFRI Equity Hedge: Short Bias Index gained nearly 29% and HFRI Macro: Systematic Diversified Index was up nearly 18% for the year. Nonetheless, both of these sub-strategies experienced investor withdrawals and fund liquidations in the second half of 2008.

“Investor risk aversion remained at historically extreme levels through year end, even as implied and realized asset volatility moderated,” said Kenneth J. Heinz, President of HFR.

“The hedge fund industry has returned an average of 11.8% annually since 1990, and an average 15.9% in the 12 months following the five largest historical declines. While we expect continued asset consolidation, the combination of improving credit markets combined with an unprecedented level of global financial stimulus, are likely to be supportive of industry performance in 2009," he concluded.

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