Market conditions provide chance for hedge funds to justify their fees

These are conditions in which hedge funds are meant to be able to outperform, using their much wider array of trading tactics to capitalise on default risks, currency routs and share price falls.

After underperforming regular stock benchmarks for the past five years, this year they have just about managed to beat the market, according to Hedge Fund Research’s HFRX index, gaining 0.9 per cent this year to February 25 compared with a 4.7 per cent fall in the MSCI Emerging Markets index and a 0.3 per cent gain in the S&P 500 Total Return index.

Even so, some are struggling, as shown by Brevan Howard’s decision to shut its £1.3bn emerging markets fund.

Analysis by asset manager BlackRock of last year’s hedge fund performance underlines the wide divergence in performance.

An investor who chose the most successful hedge fund strategy last year – equity hedge, for example – could have made around 20 per cent in the best performing funds or lost 15 per cent in the worst.

Even the top funds would have lagged a pound, dollar or euro invested in a major index such as the Standard & Poor’s 500, up 30 per cent.

But pension funds and others with a lower risk threshold also use hedge funds because their greater tactical scope adds to the options for achieving less volatile, and in some cases more profitable returns than just tracking the market.

“Last year, you could just buy beta (track the market) in both equities and credit, and sell gold and Bunds. This year ... it’s much more complicated,” Philippe Ferreira, head of research, alternative investments, at Lyxor AM.

“In this context, investing in hedge funds is a good way to get protection and de-correlation with the market, and in that sense hedge fund performance in January showed they did just that: strategies with less directionality producing positive results while stock indexes fell.”

In fund management overall, market-tracking “passive” strategies are expected to grab market share from “active” strategies by 2020, a recent study from consultants PwC found. But assets under management in alternative investments, which include hedge funds, will more than double to $13 trillion, PwC said.