Hedge Funds Archives — Page 7 of 8

The Impact of Puerto Rico on Hedge Funds

With the first half of 2018 behind us, our chart of the week touches on one of the more profitable positions for distressed credit hedge funds. Funds invested in Puerto Rican debt due to its misunderstood fiscal story, bondholder protections and a better credit situation than many stressed sovereigns. Following the devastation left from Hurricane Maria and President Trump’s comments on wiping out Puerto Rico’s debt, bondholders saw prices plunge in the latter half of 2017. That late year sell-off led to those bond positions contributing the most significant losses to many distressed strategies.

Thus far, 2018 has seen a recovery of Puerto Rican bond prices for hedge funds. The chart above highlights Puerto Rico General Obligation 2035 bonds. Many hedge funds believe the bonds were oversold last year following the hurricane, and recent revisions to Puerto Rico’s fiscal plan now projects greater primary surpluses, which has caused bond prices to rise. Also, Puerto Rico’s recovery from Hurricane Maria is now making progress which has also given comfort to bondholders. Negotiations for other Puerto Rican bonds will continue throughout 2018, with managers expecting to see more volatility during the remainder of the year.

Print PDF

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Will Strong Deal Activity Continue in 2018?

M&A activity got off to a fast start in 2018, as over 7,000 deals worth $1.3 trillion in value were announced during the first quarter. A common theme among these deals were complex cross-border transactions. The number of transactions greater than $10 billion doubled to a Q1 record of eighteen versus eight last year.

Health care and media/content related deals dominated the quarter and are expected to continue throughout the year. The largest announced deal was the $55 billion merger between Cigna and Express Scripts, a vertical merger of healthcare providers. Other announced deals in the quarter included Comcast’s $31 billion bid for British broadcaster Sky; Keurig Green Mountain’s $19 billion acquisition of Dr Pepper Snapple Group and French insurer AXA’s $15 billion takeover of XL Group.

The biggest risk to M&A deals going forward? Government intervention remains the elephant in the room. Markets became alarmed following the Department of Justice’s (DOJ) antitrust suit in 4Q 2017 around the Time Warner/AT&T deal. The trial between the companies and the DOJ started on March 19th and is expected to continue over the next few months, with many in the media space following it very closely. Government intervention continued in 2018 as the Trump administration blocked Broadcom’s $117 billion hostile bid for Qualcomm, citing national security concerns. Companies now must spend time analyzing how the U.S. government will view any potential deal. Deal activity will likely remain strong in 2018 if companies feel the U.S. government will remain on the sidelines.

As it relates to investments, the fast start of M&A activity in 2018 has given merger arbitrage hedge funds a diverse set of transactions to invest in. A typical merger arbitrage hedge fund will buy shares of the target company and short the acquiring company by borrowing shares with the hope of repaying them later with lower cost shares. If the deal goes as planned, the target company’s stock price should eventually rise to the agreed per-share transaction price and the acquirer’s price should fall to reflect what it is paying for the deal. Deal spreads widened out in February as equity market volatility returned and concerns about government intervention continued to grow. Despite healthy deal activity, merger arbitrage funds have been carefully analyzing deals and how the current administration is likely to view them, thus adding another dynamic to the traditional merger arbitrage strategy.

Print PDF

2018 Market Preview

Each year, investors face numerous questions that can impact their portfolios, and 2018 is no different. How will tax reform further impact the capital markets? How much – and often – will the Fed raise rates in the coming year? Can international equities continue to outperform their U.S. counterparts? Should we be concerned about the levels of dry powder in the private equity market? These topics among many others are covered in the following articles as we offer our annual market preview newsletters. In the links below, readers will find a preview newsletter for each asset class that we cover, as well as a general U.S. economic preview. Each article contains insightful analysis and key themes to monitor over the coming year, themes which will underlie the actual performance of the asset classes covered. We hope that this set of articles can assist you and your committees as you plan for 2018. Should you have any questions about any of the content, please feel free to contact myself or any of the authors or consultants here at Marquette. We also have a webinar recording available by request if you would like to hear a high-level presentation of the topics presented in these articles. Happy New Year!

U.S. Economy by Jeffrey Hoffmeyer, CFA, Lead Analyst, Asset Allocation

Fixed Income by Ben Mohr, CFA, Senior Research Analyst, Fixed Income

U.S. Equities by Samantha T. Grant, CFA, CAIA, Senior Research Analyst, U.S. Equities & Rob Britenbach, CIPM, Research Analyst, U.S. Equities

Non-U.S. Equities by David Hernandez, CFA, Senior Research Analyst, International Equities

Real Estate by Jeremy Zirin, CAIA, Senior Research Analyst, Real Assets

Infrastructure by Jeremy Zirin, CAIA, Senior Research Analyst, Real Assets

Hedge Funds by Joe McGuane, Senior Research Analyst, Alternatives

Private Equity by Derek Schmidt, CFA, CAIA, Senior Research Analyst, Private Equity

Alpha Returned in 2017, But What About 2018?

Equity hedge strategies were the best performing hedge fund strategy in 2017, as alpha was generated on both the long and short side. This chart shows that net alpha bounced back nicely from 2016, as the 2017 environment was much better for active management. Alpha was generated on the short side during the first half of the year, but trailed off as the bull market continued to move higher.

Another factor that helped equity hedge strategies was the decline in correlations during the year. An environment with lower correlations among stocks is positive for active managers, particularly those who maintain both long and short positions.

For alpha generation to continue in 2018, correlations between stocks will need to stay low, with meaningful sector dispersion. Coupled with the continued effort to remove global monetary stimulus, we would expect managers to benefit from these conditions.

Print PDF

Falling Correlations Boost Hedge Fund Returns

When looking at hedge fund performance in 2017, equity hedge has been by far the best performing strategy, with the HFRI Equity Hedge Index up 9.6% through the end of the third quarter.

What has made the environment so appealing for equity hedge performance in 2017? This week’s chart looks at the CBOE S&P 500 Implied Correlation Index over the past year. The index measures the expected average correlation of price returns between S&P 500 Index components, implied through SPX option prices and prices of single-stock options on the 50 largest components of the SPX. The index hit a low of 13 during the month of October, as correlations continued to trend lower.

An environment in which correlations are lower is a positive for active managers, particularly those that are both long and short individual stocks. When correlations fall, we expect stocks to trade more off fundamentals versus moving with the general market. We believe this is one factor that has helped equity hedge strategies during 2017, and should continue to be accretive to returns if correlations remain depressed.

Print PDF

2017 Market Preview

January 2017

Similar to past market preview newsletters, we enter the year with a new set of questions. What shape will Trump’s policies take and how will they impact the market? Will the formal start of the Brexit have an impact on portfolios? To what degree and pace will the Fed increase interest rates? These topics among many others are covered in the following articles as we offer our annual market preview newsletter. Each year presents new challenges to our clients, and other headlines will emerge as the year goes on; it is critical to understand how asset classes will react to each new development and what such reactions will mean to investors. The following articles contain insightful analysis and key themes to monitor over the coming year, themes which will underlie the actual performance of the asset classes covered. Recognizing that many of our clients may not have time to cover the following 30 pages of material, we offer the primary conclusions for each asset class heading into 2017.

Download PDF

Hedge Fund Assets Under Management Continue To March Higher

As the investment community continues to debate the role of hedge funds in the future, one thing is for certain, assets continue to flow into this much debated space.

The above chart goes back ten years to show the overall growth of assets in hedge funds. As it would be expected, 2008 saw overall assets under management decline following a difficult market environment. Since that timeframe assets have steadily increased year over year, despite high fees and at times disappointing performance. 2016 was no different with a difficult first half as overall returns underperformed the broader market indices, assets still flowed into this space. Hedge funds will still be a sought after asset class for institutional investors as they provide diversification, bond-like volatility, and low correlation to traditional long-only assets. To remain competitive, hedge funds will have to cut management and performance fees to remain attractive to the largest capital allocators.

Activist Hedge Funds and Lackluster Returns

Activist hedge fund managers seek to outperform the equity markets over a market cycle by first purchasing a large amount of shares in publicly traded companies and then pushing these companies’ management teams to alter their approaches in an effort to unlock shareholder value. Some common practices include share buybacks, spinoffs, and strategic sales.

Activist hedge fund managers seek to outperform the equity markets over a market cycle by first purchasing a large number of shares in publicly traded companies and then pushing these companies’ management teams to alter their approaches in an effort to unlock shareholder value. Some common practices include share buybacks, spinoffs, and strategic sales.

Asset flows into activist hedge funds have more than doubled since 2011 and grown six-fold over the last 10 years making this a highly embraced strategy among hedge fund investors. Latest Hedge Fund Research, Inc (HFR) data estimates assets under management to be over $120bn among activist hedge funds.

Unfortunately, this week’s chart illustrates that returns produced by activist hedge funds have been quite underwhelming, trailing the S&P 500 index over the most recent 1-, 3-, 5-, and 7-year annualized periods through December 31, 2015 (data for the HFRI Activist Index does not go back far enough for us to run a 10-year return comparison between the two indices). Out of the approximately 120 activist hedge funds in business today, there are many who do not report performance to HFR so the comparison is not perfect. However, the index does serve as a reasonable proxy for the industry.

We show activist index returns relative to S&P 500 index returns because activist strategies are marketed as an equities substitute and most institutional investors view them as such. Therefore, the opportunity cost for investors tends to be returns which they would have otherwise obtained through an investment in a long only equity fund benchmarked to a broad market index like the S&P 500. Thus, while most activist funds’ strategies are well-intentioned, returns have struggled to maintain pace with the broad U.S. equity market.

2016 Market Preview

January 2016

Similar to previous years, we offer our annual market preview newsletter. Each year presents new challenges to our clients, and 2016 is off to a volatile start with equity markets down significantly, oil dropping below $30, the Fed poised to further increase interest rates, and fears of a China slowdown rippling through the markets. However, other headlines will emerge as the year goes on, and it is critical to understand how asset classes will react to each new development and what such reactions will mean to investors. The following articles contain insightful analysis and key themes to monitor over the coming year, themes which will underlie the actual performance of the asset classes covered.

Download PDF

Subscribe to Research Email Alerts

Research Email Alert Subscription

Thank You

We appreciate your interest in Marquette Associates.