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A broad view of hedge fund performance reveals plenty of strong performers

Date: Friday, December 5, 2008
Author: Pertrac.com

PerTrac review:

New YorkDecember 4, 2008 – PerTrac Financial Solutions (www.pertrac.com) today announced the results of a new review of hedge fund performance, leverage, and liquidity, which provides granular insight into the industry for the year-to-date.

Based on an analysis of the performance of more than 4,500 funds, the HedgeFund.net-PerTrac Online Universes found that while the average fund is down -10.83% for the year-to-date through October, many hedge funds posted strong gains so far this year.  A year-to-date examination of the distribution of reported hedge fund returns (from highest to lowest) reveals a gain of 27.08% at the 95th percentile, and gains of 13.85% at the 90th and 5.11% at the 80th percentiles.

“It’s a mistake to judge the entire hedge fund industry by a single, average number,” said Meredith Jones, Managing Director of PerTrac Financial Solutions. “Once you get away from the average performance numbers, it is clear that a significant number of funds have delivered strong returns this year. In fact, even down to the 70th percentile of hedge funds, performance is essentially flat, (-0.27%) through October, meaning that in our sample alone, more than 1,300 funds were either flat or positive for the year through October.”

In contrast, top mutual funds fared far worse losing 23.46% at the 90th percentile and losing 27.42% at the 80th percentile. Among the worst performing hedge funds, the year-to-date return at the 20th percentile is -27.24%, and -39.04% at the 10th percentile. The biggest losers among mutual funds posted even greater losses, with returns at the 20th and 10th percentiles of -41.59% and -46.02%, respectively. In comparison, the S&P 500 (DRI), Dow Jones Industrial Average and NASDAQ dropped -32.84%, -28.18% and -35.11%, respectively.

“Managed Futures/CTA funds have been the clear winners this year through October, posting an average return of 14.01%, with impressive gains of 46.00% and 31.88% at the 90th and 80th percentiles,” said Jones. “In fact, one must look below the 20th percentile of the CTAs in our sample to find funds that posted double-digit losses. Certainly, Managed Futures/CTAs are the most common strategy in the top 5% of funds reporting in our sample. Nonetheless, looking at the top five percent of funds reveals a diverse mix of strategies posting strong gains through October, including long/short equity, short bias, macro, multi-strategy, fixed income, and fund of funds, proving that success or failure in this market has not been strategy-specific.”

Large Funds Edge Small, While Young Funds Outperform Old
PerTrac also updated previously released emerging manager research (available at www.pertrac.com) to include performance through September 2008 to determine whether smaller or younger funds outperformed their larger and older counterparts during the recent financial meltdown. For the year-to-date through September, large funds performed slightly better than their small peers, losing an average of -8.71% while small funds lost an average -9.08%. Mid-sized managers lost 10.00% on average. On the other hand, young funds handily outperformed both mid-aged and older funds, dropping an average of -7.58% for the year to date through September while mid-aged and older funds dropped an average of -10.97% and -9.75%, respectively.

“The performance of younger and smaller funds is definitely noteworthy in this environment, especially amid speculation on which segment of the hedge fund market will ultimately emerge from this crisis victorious,” said Jones. “Some postulate that only the largest, most established funds will survive the market turmoil, while others look to a more decentralized hedge fund marketplace populated by smaller funds. In our study, younger funds outperformed older funds quite dramatically, while smaller funds were only slightly edged by large funds. It is interesting to note that many of the larger funds that were reported in the media to have posted losses did not report their performance for this study. If the study results are manually adjusted to include these funds, the small funds come out on top.”

Number of Reporting Funds Drops, But Most Funds Still Surviving
An additional metric studied was the total number of funds that continue to report performance. Based on a sample of twelve commercial databases, PerTrac’s research shows that there are currently nearly 19,000 funds reporting performance to a commercial database this year (excluding duplicates). With the funds that were added to databases in 2008 removed, this represents a drop of approximately 4,800 funds from those reporting performance in PerTrac’s 2007 Hedge Fund Database Study.

“While there has been a decline in the number of funds reporting performance to commercial databases, it is crucial to note that a fund that stops reporting is not necessarily a fund that has closed its doors,” noted Jones. “Databases are viewed by most managers as a marketing tool. As managers produce performance they view as “unmarketable,” they are less likely to report to a database. When and if performance rebounds, there is often a return to reporting. In addition, funds stop reporting due to personnel changes (person who sent the performance leaves) and fund closures (hard and soft) based on assets under management. It is impossible to say how many funds will ultimately survive the market shakeout, but even if the most common “worst case scenario” of a 50% failure rate does occur, it appears that as many as 9,000 funds could be left standing.”

Research Reveals that 26.9% of Hedge Funds Use No Leverage; 50% Offer Monthly Liquidity
Finally, PerTrac examined more than 6,000 managers to shed light on common qualitative characteristics that have been in the spotlight recently, notably leverage and liquidity.  Despite a misperception that hedge funds are, as a group, highly leveraged, in the sample 26.9% of managers reported using no leverage, while 73.1% report using leverage of some kind. Of those funds using leverage, 21.7% report using leverage as an equity strategy, which often employ less than 2:1 leverage.  This means that as many as 42% of hedge funds may be using less than 2:1 leverage.

Looking at liquidity, approximately 50% of funds offer monthly liquidity, while 8.2% offer more frequent redemption periods and 41.8% provide liquidity less frequently than monthly. In addition, 28.1% of funds report having a 30-day redemption notice period, while 11.6% requires 45-days notice, 10.7% requires 60-days notice, and 10.8% require 90-days.

“These average characteristics are noteworthy by industry participants and watchers alike,” said Jones. “The leverage statistics cast doubt on hedge funds’ reliance on borrowed capital to generate returns, since a large portion of hedge funds in our sample use no or relatively low leverage. This means than an absence of credit for hedge funds going forward may not be as detrimental to returns as some have hypothesized. The liquidity statistics are a bit more worrisome for industry participants, as the statistics demonstrate an opportunity for waves of selling to continue, based on the number of funds that provide monthly liquidity. Certainly, as the industry emerges from this market crisis, managers and investors will want to examine whether there is appropriate liquidity for both the sensible management of the strategy and of the business.”

About PerTrac
PerTrac Financial Solutions was founded in 1996 with the goal of creating a comprehensive suite of software solutions for investment professionals. Now an industry standard, PerTrac software is used by more than 2,000 clients in 50 countries, including banks, brokerage firms, consultants, plan sponsors, family offices, investment managers and funds of funds. The company’s flagship product, the PerTrac Analytical Platform, is now the world’s leading asset allocation and investment analysis software. PerTrac CMS, which was part of its January 2006 acquisition of Whittaker Garnier, is another major component of the PerTrac Suite. PerTrac CMS is the investment industry's leading tool for managing the client relationships and workflows associated with capital raising, investor relations, and investment management, used by nearly 300 alternative investment firms around the world. In January 2008, PerTrac announced the release of PerTrac Portfolio Manager, a unique software application designed to help funds of funds and institutional investors create, monitor and manage multi-manager portfolios of alternative investments. Developed with leading hedge fund of funds firms in both the US and Europe, PerTrac Portfolio Manager is a key element of the PerTrac Suite. PerTrac Financial Solutions is headquartered in New York with offices in London, Hong Kong, Tokyo, Reno, and Memphis. For additional information on the full suite of PerTrac products, please visit www.pertrac.com.