Much is written on the demise of Active Management. But in recent turbulent mostly-down markets, some active managers are not only outperforming the markets, but actually delivering positive returns for 2022.
When looking at active management, there is nothing more active than hedge funds—and much of this column will focus on hedge fund outperformance.
First as a comparison, let’s look at traditional long-only active management for US equity.
The first six months of this year, the S&P500 fell 20 percent on a total return basis. According to latest Morningstar bi-annual data, nearly half of active US equity funds outperformed their passive peers during this time. That’s the good news for traditional active equity investors.
But outperforming negative 20 percent still left most traditional equity managers with negative performance. To this point, according to The Wall Street Journal’s Winners’ Circle survey, for the last 12 months thru September, only 7 funds managed to post any gains out of the 1,412 U.S. actively managed stock funds tracked. That’s the bad news for traditional active equity investors.
Now, let’s pivot from traditional active management and look at alternative active management—via hedge funds. As mentioned above, arguably, there is nothing more active than hedge funds.
In hedge funds, two criteria are especially important for manager selection—to be in the right category of hedge fund strategy for the market environment, and to be with the best managers—as dispersion can be so large between the top performers and the lower performers.
The top performers in the hedge fund industry this year are dominated by Managed Futures (+21 percent), Global Macro (+12.5 percent) and Multi-Strategy (+0.2 percent) as per PivotalPath. Unlike long-only traditional equity discussed above in which the outperformers were characterized by small niche strategies not overly diversified, the larger well-performing hedge funds benefited from their scale investments in modeling and infrastructure.
More on the managed futures—large funds typically need to deploy more capital to medium/long-term trend following, which works well in the current turbulent market environment. The larger funds have done well in 2022 due to these restrictions from their large capital base—while smaller funds, which often benefit from nimbleness, have been less successful. As one mention of a large outperforming managed futures fund – Blue Trend, running several billion dollars, is up 38 percent through September.
One example in multi-strategy—$60 billion DE Shaw’s flagship Composite Fund generated a net return north of 20 percent through August, following annual net returns exceeding 18 percent in both 2021 and 2020.
Jon Caplis, CEO and Founder at PivotalPath, a leading hedge fund consulting and analytics firm covering over 2,500 hedge funds, notes that dispersion is the highest we have seen since the 2008-2009 Financial Crisis. Strategy selection is always important, said Caplis, but given the current elevated levels of dispersion, manager selection is more important than ever.
For their composite index, covering all their reporting hedge funds, the dispersion between the 75th percentile and the 25th percentile through September this year is a whopping 23 percent, compared to a ten-year annual average of 12.3 percent. And regarding performance, 42% of funds included in the indices reporting through September are positive. Good news for hedge fund investors.
As a further example, looking at PivotalPath’s Equity LS index through September this year, the dispersion is an eye-popping 18.3 percent, compared to a ten-year annual average of 11.7 percent. And a full 25 percent of the hedge funds included in the index reporting through September are positive, clearly outpacing the less than 1 percent positive funds reported by traditional long-only US equity funds in this column’s earlier example.
The industry talks about the traditional 60/40 structure as no longer relevant—Caplis notes this has never been more true than in 2022. “Investors that have included an allocation to a diverse set of hedge fund strategies (including Managed Futures, Global Macro and Multi-Strategy) have protected their clients’ assets, which is a big win in this market environment.”