In the wake of ever more expensive equity and bond valuations, we (at Sandaire) have been busy increasing our allocation to uncorrelated alternative liquid assets to manage portfolio risk and eke out a separate and independent return stream. Apart from our Gold position which is our way of playing the devaluation of fiat currency, we have been steadily building up our position in Hedge Funds, an asset class that lost popularity over the past five years to the end of 2019 due to paltry relative returns. This has paid off recently with the HFRX index (an asset weighted investible benchmark designed to represent the overall composition of the hedge fund universe) gaining 2.2% over the last three months.
It is true to say that the index is heavily skewed towards returns in long / short equity due to the preponderance of managers in this strategy and that, with the huge recovery in equity markets over this time frame, perhaps such a return should be expected. However, it is evident that hedge fund managers of all strategies are finding ample opportunity in the turbulent financial market conditions dominating 2020.
The relative tranquillity of recent years had been caused by the careful massaging of the economy through governmental and central bank policy and, in particular, the asset purchase programmes. This unpredictable ‘interference’ of natural market forces had rendered it tricky for managers to take decisive and meaningful positions with a high degree of probability and thus profit from them. In addition, the number of hedge funds launched over the years had diluted the potential returns as the trades became ‘crowded’.
2020 is different though. We may be in the midst of another bout of quantitative easing and asset purchases but the global pandemic is creating turmoil at a different level. Persistently volatile markets, plus plenty of dispersion between regions — as different economies and sectors come out of pandemic lockdowns at different speeds — are finally giving managers the richer trading environment they need to profit from their strategies.
Volatility has remained elevated since the early stages of western lockdowns, as we have seen over recent days with technology stocks gaining and losing several percentage points each day, perhaps fed by a rise in investment by retail investors jumping on the band-wagon in what usually turns out to be the later stages of a market’s rise. This creates opportunities for experienced investors to take advantage of.
Competition has also reduced in some previously crowded trades, after March’s extreme volatility forced some traders out of their positions. Our managers now talk about one of the best trading environments for years.