Many hedge styles are generally tied to the direction of equity markets, albeit at lower beta. Hence as the equity markets go, so go equity hedge funds. Similarly, relative value will be affected by correlation and volatility in equity markets. If markets are correlated and have lower volatility, then there is less opportunity in relative value. There is less stretch in the market.
May was a difficult market for hedge funds that are more focused on small cap and value stocks given the poor performance for these indices this month; nevertheless, hedge funds styles have generated positive returns for the year. The only exceptions have been global macro and CTA's. Interestingly, these are two styles that have been classified as crisis risk offsets. In simple terms, if there are no crises, these strategies may underperform. They will make the greatest returns when there are market divergences. While these two strategies are absolute return managers, we generally find that larger market dislocations across many markets will be more favorable for return generation.
As we reach the mid-point in the year, we have mixed views on the performance of hedge funds. While generally positive, it seems as though managers have not been able to capitalize on the strong equity performance around many global markets, and have missed the weakening in the dollar, Political noise seems to have dampened risk-taking and without risk exposures, there will not be returns.