By Neil Wilson
Notwithstanding the shocking recent news concerning Raj Rajaratnam and Galleon in the U.S., there has been a marked change in mood of late in the global hedge fund industry. Back in the springtime, when we held our annual EuroHedge Summit in Paris after the turmoil of last year, the atmosphere was still distinctly negative and edgy.
However, by the time of our recent InvestHedge Forum at the British Museum in September, the mood was tangibly more upbeat and positive. So what had changed? And can—or will—it last?
Well, one thing that has become clear since last spring is that the financial world as we know it is not coming to an end. The concerted efforts of governments and central banks, in the form of bailouts, fiscal stimulus and quantitative easing, have done the trick and pulled us out of the abyss—at least for the time being. And hedge fund performance this year has generally been very good, as many of us were predicting it would be in such a dislocated market.
In 2008, the vast majority of funds (except for strategy areas such as managed futures and macro) suffered significant negative returns, and many were languishing 20 percentage points or more from their high-water marks. It seemed certain that many could not survive, and that there would be a dramatic reduction in the size of the industry. For many managers, the game had become purely one of survival.
The shutdown rate was already rising last year. In Europe, we have now confirmed that at least 176 funds disappeared in 2008—counting each strategy only once (not each and every version or share class)—up from a figure of 124 in 2007. This represented an attrition rate of well over 10% out of just over 1,600 funds trading in Europe at the beginning of last year—near the higher end of the normal range of 8% to 12% a year over the previous decade.
In Asia, the picture was looking even bleaker. Average performance there was significantly worse in 2008. Amid a tidal wave of redemptions, AsiaHedge has reported that the number of Asian shutdowns soared to a confirmed total of 139—up from only 60 the previous year—to an alarmingly high attrition rate of over 15%.
But this year we have not really seen the additional surge in closures many feared. In Europe, we recorded 130 shutdowns during the first nine months of 2009—a slight increase in the rate of attrition, but not a stratospheric leap. And in Asia, where performance has returned with a vengeance this year, we counted only 48 shutdowns during the same period—a slowdown from the high closure rate of 2008.
The overall industry did continue to shrink in the first half of 2009. An analysis of the database and associated surveys conducted by HedgeFund Intelligence shows that global assets dropped by 8.5% between January and June to about $1.67 trillion—with positive performance in the first half not being enough to offset continuing net outflows of investor capital.
There are clear signs, however, that we have now passed the lowest point—and that total assets have already started to rebound, maybe by 10% or more since July, resulting from a combination of even stronger returns in the third quarter plus renewed net inflows from investors.
On one level, this is, of course, good news. It validates the view of many in the business, including myself, that hedge funds in general were really not to blame for the financial crisis last year, and that the industry as a whole would come out of the crisis not weaker but stronger.
That said, I think it is important not to get overexcited about what has been proved so far, or how much things have turned around. As various commentators have been pointing out, what we have seen since March this year has essentially been a liquidity-fueled rally. Many managers have duly been taking advantage—and bringing their funds back toward high-water marks much more quickly than many had expected. This is one major reason why the shutdown rate has not soared this year.
But for many managers the recent rally represents no more than an opportunity. If managers who were down a lot have made back last year's losses, then remaining investors will be much happier. To retain those assets, however, investors need to believe that the managers also have the right skills to navigate the next phase—when the "life support system" of fiscal stimulus at some stage needs to be withdrawn.
So the future is indeed now brighter for hedge funds overall—though not for all.