August was another volatile month in the underlying equity and commodity markets, with the MSCI World Index and the Reuters CRB Index down 1.6% and 5.6% respectively. Against this backdrop, the Eurekahedge Hedge Fund Index shed 1.2%1in course of the month, with assets within the industry recording a similar decline (in percentage terms). The AuM of the hedge fund industry as at the end of August 2008 was US$1.9 trillion, with both negative performance and redemptions responsible for the decline.
The chart below shows the monthly performance-based changes in AuM and net asset flows (inflow/redemptions), for the year-to-date.
Figure 1: Summary Monthly Asset Flow Data for 2008-to-date
Long/short managers saw the largest decrease in AuM in August, with both performance-based declines (US$6.7 billion) and redemptions (US$8.7 billion) attributing to the drop. Managers of the strategy lost 1.9% during the month, with exposure to emerging market equities accounting for a larger share of the losses; the MSCI Emerging Markets Index shed 8.2% during the month. Redemptions across long/short managers can be attributed to the relative underperformance of the strategy over the past few months, coupled with weak investor sentiment towards the equity markets.
While most other strategies also saw flat to negative performance-based changes in assets, CTAs and multi-strategy managers were among the few strategies to witness some inflow of capital during the month. Inflow into the former (US$400 million) can be explained by its notable outperformance year-to-date, while those into the latter (US$830 million) suggests that investors continue to seek diversification of their capital across different asset classes in order to minimise their risks.
All regional mandates recorded performance-based declines in AuM in August, with North America, Europe and Asia ex-Japan losing US$7.8 billion, US$2.7 billion and US$1.4 billion respectively. Volatility in equity markets across the board, coupled with changes in sectoral trends in equities in some regions (such as a rebound in consumer discretionary and industrial sectors in the US, on the back of a further decline in energy prices, for instance), were responsible for most of the losses across the regions. Japan and Latin America, however, were relatively flat in terms of performance-based asset declines.
In terms of asset flow, North American and European managers saw outflows of US$6.3 billion and US$4 billion respectively, given the weak near-to-medium term economic outlook of both the regions. Asian ex-Japan saw outflows to a much lower extent (US$700 million) as sharp rebounds across regional equity markets in the previous month had a somewhat positive impact on investor sentiment in the region. Japan and Latin America both saw comparatively negligible outflows (US$30 million and US$220 million respectively); the former’s can be attributed to the relative outperformance of the region to its Asian peers, while the latter’s can be explained by the fact that it remains the only positive region year-to-date, and the region has relatively strong fundamentals despite the economic stress across the board.
Figure 2: Aug-2008 Asset Flow Estimates by Geographic Mandate
To conclude, we are of the opinion that the underlying markets may remain volatile over the near term, given the uncertainty of the financial sector, among other factors. However, we do expect hedge funds to remain the investment vehicle of choice for eligible investors, given the fact that some strategies (like arbitrage and CTA) have yielded positive returns year-to-date despite turbulent movements across some key asset classes, while some others are flat to negative for the last eight months.
Going into September, most major equity markets continue to remain volatile and negative month-to-date. We expect this trend to work in favour of short-term strategies like arbitrage and relative value, and anticipate that a further downside across equities would yield some gains for long/short managers, too, on the short side. In the currency markets, the US dollar has stuck to its strengthening trend (particularly against the euro and the British pound, among other major currencies), affording CTAs with profitable short-term trading opportunities. Persistent risk aversion among investors, on the back of volatility across asset classes, coupled with weak economic data emanating from major economies has led to an increase in the demand for fixed income assets (reflected in the flat to positive flows for fixed income managers in August). We expect the resultant lower yields across the bond markets to benefit fixed income managers with decent opportunities over the near term. We also anticipate all these movements in the underlying markets to translate into fresh inflows into hedge funds over the near-to-medium term, given strong relative outperformance and return-generating potential of hedge fund managers, to traditional long-only and other investment vehicles.
1 Based on 60.28% of funds reporting their August 2008 returns as at 15 September 2008.