Hedge Funds Have Best Month of Relative Performance in Four Years

Date: Monday, March 12, 2007
Author: RiskCenter Staff

Hennessee Group LLC, an adviser to hedge fund investors, announced that the Hennessee Hedge Fund Index advanced +1.09% in February (+2.50% YTD), while the S&P 500 declined -2.18% (-0.80% YTD), the Dow Jones Industrial Average fell -2.80% (-1.57% YTD), and the NASDAQ Composite Index decreased -1.94% (+0.03% YTD). Bonds outperformed amidst the equity volatility, as the Lehman Intermediate Government Corporate Bond Index advanced +1.38% (+1.42% YTD).

“Relative to the S&P 500, February marked the best performance for hedge funds since January 2003,” said E. Lee Hennessee, Managing Principal of Hennessee Group LLC. “The increase in volatility caused by the market’s decline has been beneficial to hedge funds.”

The Hennessee Long/Short Equity Index advanced +1.09% in February (+2.51% YTD). The S&P 500 experienced its first monthly decline since May 2006 due to a flight to quality as a result of an increase in banking reserve requirements in China, an increase in interest rates in Japan, the unwinding of the yen carry trade, and the collapse of the sub-prime mortgage sector.

“Despite most long/short equity funds maintaining positive net equity exposures, funds were able to profit in February from a number of quality short positions,” said Charles Gradante, Managing Principal of Hennessee Group LLC. “In addition to the market’s decline on February 27, funds were also able to profit from a decline in the sub-prime mortgage sector.”

The Hennessee Arbitrage/Event Driven Index increased +1.34% in February (+3.13% YTD), as all major strategies again posted positive returns. The Hennessee Distressed Index posted a gain of +1.70% (+3.39% YTD), as the corporate bond market did not follow the equity and mortgage markets and corporate bond yields generally declined. Convertible arbitrage funds were up +1.19% (+2.46% YTD). In addition to a high level of convertible new issuance, volatility finally increased after setting all time lows in early February. Merger arbitrage experienced its 16^th consecutive month of positive performance, as the Hennessee Merger Arbitrage Index advanced +0.71% (+3.19% YTD). Through the first two months of 2007, $610 billion of deals have been consummated and the record for the largest LBO in history was again set in February with the planned buyout of TXU Corp.

“We fear that the housing slowdown will cause significant price declines in the resale housing market,” continued Mr. Gradante. “This may result in stagnant consumer spending and ultimately negative real GDP growth and corporate earnings growth that is below expectations.”

The Hennessee Global/Macro Index advanced +0.66% in February (+1.68% YTD). The Hennessee International Index advanced +0.14%, underperforming its U.S. brethren. Macro funds benefited from the decline in the U.S. dollar versus the yen and euro, as the Hennessee Macro Index advanced +0.71% (+1.15% YTD). Other positions that benefited from the flight to quality, such as Treasuries and gold, also added to performance for macro managers.

“It appears that the credit problems experienced in the mortgage market due to excessive liquidity are starting to work their way through the entire global economy,” stated Mr. Gradante. “Central banks are attempting to take back this liquidity as evidenced by higher rates in Japan and the increase in reserve requirements in China. While the global impact of both of these issues has yet to be determined, this could be the catalyst for an increase in risk premiums across the board.”