“From TINA to TALA”

Long deprived of a real alternative to equities, investors now find they are spoiled for choice.

In recent years, with the market dominated by zero interest rates and low volatility, most investors accepted the philosophy of TINA – “there is no alternative” – to equities. The result was an unprecedented bull market that hamstrung those hedge fund managers seeking to add value through active management. Now, though, the tables have turned and, at long last, we are seeing hedge funds and alternative strategies making a comeback. In fact, the mantra now is more TALA – “There are lots of alternatives”. We give a snapshot of the winning strategies of 2022 and the front runners for 2023.

Talent back to the fore

The last 18 months brought a brutal revival in inflation, and in 2022 the Fed unleashed one of the steepest series of rate hikes in its history. Meanwhile, the resurgence of economic uncertainty revived volatility across all asset classes. This was bad news for most in the markets, but not all. It put talented traders back in the limelight.

Long/Short Equity funds on the ropes

Last year was undeniably challenging for trading on equity markets, which rotated between Value and Growth stocks at least once a month on average. This was bad news for Long/Short Equity fundamentals managers, particularly those with a growth and quality bias and general underweight to the energy sector. While they did manage to generate positive alpha on the short positions, 2022 was still one of the worst ever years for alpha on long positions for the reasons sketched out above.

Tough times for Equity managers

With rising interest rates calling the shots – as is clear from the MSCI World’s near perfect inverse correlation to the US 10Y bond – equity markets were clearly tough for managers working on fundamentals, whose picks heavily underperformed with no fundamental logic. In consequence, the HFRI Equity Hedge fund lost -10.4% in 2022, with losses of -17.1% for AKO Europe, -12.0% for Blackrock Strategic and -12.7% for Egerton. However, in Q4 2022 the tide turned, and the start of 2023 provided much better pickings for these managers.

Rebound should be good news

The encouraging news is that, if we crunch the numbers for alpha generation by Long/Short Equity funds over 30 years, a distinctly cyclical pattern emerges. In other words, as interest rates move back to normal, 2023 could well bring a return to healthy performances for Long/Short Equity funds. All the more so in relative terms as it is currently hard to see equity markets mounting a strong rally amid a slowing economy and downgrades to company earnings forecasts.

China, meanwhile, had its own story to tell, with volatility running at highs. In this environment, Chinese Long/Short Equity managers proved pretty successful, substantially beating the Eurekahedge Greater China L/S index, which dropped -14.6% in 2022, compared to -23.6% for the MSCI China. Managers were largely successful in hedging the falls and then ramping up risk exposure in recent months to capture much of the market rally. This combination persuades us to retain exposure to the Chinese market via a Long/Short Equity approach.

A stabilising role for Relative Value

Relative Value strategies, meanwhile, had a stabilising influence on portfolios. According to UBS HF PB, Relative Value hedge fund managers averaged a +3.9% performance in 2022. Funds such as Millennium +11.7%, DE Shaw Oculus +20.4% and Balyasny Atlas Enhanced +10.4% added substantially to their AuM. Their model means they can hire the top traders and their ability to effectively manage risk means they can deliver performances with little correlation to the market. As many are also low in volatility, they offer portfolios an alternative to fixed-income positions that avoids the consequences of rate movements. Expected returns remain attractive, particularly if volatility continues to run relatively high.

And the winner is…

Finally, the top winning strategy in 2022 was discretionary Global Macro. For hedge funds, this is in a way a return to their roots in the 1970s and 1980s, when markets were beset by a lack of clear direction and high inflation. Looking again at the data of UBS HF PB, discretionary macro managers made +23.1% last year. A lot of money was made betting on rate rises, which allowed a specialist in these markets like Rokos to post +50.9% performance in 2022. Their opportunist approach and ability to apply risk across all asset classes, has given them a much-enlarged playing field recently. What is more, their preference for futures and options means they can be long convexity, giving the funds an attractive asymmetry. Another bit of good news is that they are now being paid to sit and wait, giving them greater flexibility in how they manage their book. Among the stand-out performances of 2022 we must mention Caxton Macro with +34.8% and Brevan Howard Master +20.1%.

It is hard to say how 2023 will pan out, but there can be no doubt that active strategies are back in vogue. At heart, it is a question of investment philosophy, and a willingness to sit back in peace, while your savings do their work on the markets.

 

 

 

 

 

Past performance is not indicative of future results. The views, strategies and financial instruments described in this document may not be suitable for all investors. Opinions expressed are current opinions as of the date(s) appearing in this material only. References to market or composite indices, benchmarks or other measures of relative market performance over a specified period of time are provided for your information only. NS Partners provides no warranty and makes no representation of any kind whatsoever regarding the accuracy and completeness of any data, including financial market data, quotes, research notes or other financial instruments referred to in this document. This document does not constitute an offer or solicitation to any person in any jurisdiction in which such offer or solicitation is not authorized or to any person to whom it would be unlawful to make such offer or solicitation. Any reference in this document to specific securities and issuers are for illustrative purposes only, and should not be interpreted as recommendations to purchase or sell those securities. References in this document to investment funds that have not been registered with the Finma cannot be distributed in or from Switzerland except to certain categories of eligible investors. Some of the entities of the NS Partners group or its clients may hold a position in the financial instruments of any issuer discussed herein, or act as advisor to any such issuer. Additional information is available on request.

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