Funds-of-hedge-funds proceeding with extreme caution, says S&P Fund Services

Funds of hedge funds' underlying net and gross exposures are at historically low levels, according to an update on the sector by Standard & Poor's Fund Services.

"Use of leverage by S&P Fund Services rated FoHFs and the hedge funds they hold in their portfolios is as low as we have ever seen it," says S&P Fund Services lead analyst Randal Goldsmith, noting that many were holding significant cash balances, over 20% in some cases, at the end of the first quarter of 2009. This meant gross exposures were also at a historic low.

For S&P Fund Services rated FoHFs with a significant allocation to long/short equity hedge, the underlying aggregate net exposures were in most cases below 10%, Goldsmith notes, highlighting Fundana's Trocadero Capital and HDF Eurovest which had underlying net exposures of 5% and 3% respectively in their rated funds.

The detailed FoHFs update shows that Fundana's Trocadero Capital Holdings and Prima Capital Fund had a good first quarter, returning 2.9% and 2.2% respectively, with the funds' event driven and arbitrage managers delivering the best performance by taking advantage of credit opportunities and some pickup in M&A activity.

'As with other FOHFs, the Fundana funds' long/short managers did not benefit from the recovery in the second half of March because of their tight net long positions,' says Goldsmith. 'In addition, they suffered from being short lower quality cyclical stocks and long defensives.'

HDF Eurovest performed strongly, with a 2% return over the first quarter. HDF Global Opportunities and HDF Multi Alternatives showed returns of 0.7% and 1.8% in the first quarter.

'HDF has focused on managers with very low net exposure because its team sees little market visibility over the foreseeable future,' adds Goldsmith, pointing out that the group had also focused more on tactical managers, who are likely to respond relatively quickly to improved market conditions.