How Hedge Funds Are Performing in the COVID-19 Environment

Hedge funds’ loss of 10.38% in Q1 almost wipes out last year’s gains as the industry draws comparisons with the Global Financial Crisis

Hedge funds recorded heavy losses in Q1 2020 as the COVID-19 pandemic roiled global equity markets. The Preqin All-Strategies Hedge Fund benchmark generated a loss of 10.38% in Q1 2020, all but erasing the annual gain of 10.97% made in 2019.

While losses were substantial, hedge funds did display protective qualities. The S&P 500 Index lost 20.00% in Q1 2020, almost twice that of the average hedge fund return. And although many hedge fund managers struggled to realize gains in exceptional market conditions, some strategies stood out above the rest.

Who Were the Outperformers?
As seen in the chart above, CTAs were the best performing top-level hedge fund strategy in Q1 2020 and the only one to make gains. A March return of +2.76% drove the benchmark to +2.15% for Q1 2020. As a defensive strategy typically uncorrelated to public markets, CTAs provided investors with diversification from the tumbling equity markets.

Macro strategies were underwater for Q1, but managed to limit their losses. With a return of -3.35% they were the second best performing top-level strategy in the quarter. Commodity strategies were the shining light within the macro strategies fund universe, returning +4.12% in Q1.

Market neutral funds likely benefited from using short positions in Q1. Equity market neutral strategies – designed to hold equal long and short weightings – limited losses to 3.79% for the quarter. And many investors would have profited from this: as reported in the 2020 Preqin Global Hedge Fund Report at the start of the year, investor demand for equity market neutral strategy funds increased in 2019 compared to 2018.

Who Were the Underperformers?
Hedge funds with the greatest exposure to equity markets were the hardest hit in Q1. Event driven (-16.33%) and equity strategies (-14.40%) posted the largest losses among top-level hedge fund strategies. That said, both strategies protected capital when compared to the larger losses of the public market.

In a significant reversal of fortune, long bias was one of the top performing sub-strategies in 2019 (+19.53%), but made a loss of 22.59% in the first quarter of 2020. Meanwhile, long/short equity funds lost 11.16%, a higher return than that of the average equity strategies fund, but a greater loss than the wider hedge fund market.

Looking to the GFC for Hope
Many market participants will be drawing comparisons between the conditions we have experienced so far in 2020 and what we saw during the Global Financial Crisis (GFC) of 2008. Hedge funds lost 8.92% in March 2020, which was a greater monthly loss than those recorded at the height of the GFC (-6.64% in September 2008, -8.06% in October 2008).

What does this tell us about how hedge funds will fare through the COVID-19 crisis? Firstly, it highlights how significant the impact has been on investment strategies.

But secondly, with losses at a similar level to those seen in 2008, fund managers and investors will be hopeful of conditions post-COVID-19 bearing resemblance to those post-GFC. Indeed, the 2009 annual return of +35.48% remains one of the highest annual figures ever recorded by the Preqin All-Strategies Hedge Fund benchmark.

While a bull run of such magnitude is perhaps unlikely, there is optimism in the industry.

Several large hedge funds – including DE Shaw, Baupost Group, and TCI Fund Management – have re-opened flagship vehicles in a bid to capitalize on the market volatility. In the credit market, cheap debt has prompted a number of fund managers to raise for credit strategies hedge funds. And after profiting from a series of protective positions, Bill Ackman’s Pershing Square is now reportedly bullish on the US equity market. This sentiment is echoed by Ariel Investments’ John Rogers, who said “this is a maybe once in a lifetime opportunity to buy stocks at bargain prices.”

Many hedge funds have recorded significant losses in the market turmoil created by the COVID-19 outbreak. But as market participants begin to look toward a potential recovery, the signs suggest that investors may be hopeful of improved performance.

For more insights and analysis on the impact of the pandemic on alternative assets, take a look at our COVID-19 Knowledge Hub.