With more than one-half of 2018 in the rear view mirror, the popularity of hedge funds continues to grow among investors. Hedge fund industry’s aggregate returns for July checked in at 0.61 percent, bringing year-to-date gains to 1.45 percent, according to results published by Hedge Fund Research (HFR).

A Credit Suisse Group AG survey, released on August 7, 2018, reveals that net demand for allocation to hedge funds has risen to the  highest level in 3 years, reaching 28 percent, as compared with 12 percent in the previous year. Equally encouraging, was the survey’s finding that more investors are planning redemptions from EFTs and other long only strategies, than are those planning to invest in them.

Assets under management (AUM) stood at a record $3.326 trillion as of June 30, 2018, again according to HFR. However, in the most recent quarter, the industry logged outflows of $3 billion, the first recorded outflows since quarter one of 2017, but these outflows were more than offset by performance gains totaling $23.7 billion, per HFR.

Positive Investor Sentiment Doesn’t Correlate with Returns

Year-to-date gains seem unimpressive when compared to results in the overall markets. For example, year-to-date gains as of July 31, 2018 for the Dow Jones Industrial Average stood at 2.82 percent, the S&P 500 was up 5.34 percent and the NASDAQ returned 11.13 percent, while hedge fund aggregate returns stand at 1.45 percent for the same period. Even the T-Bill rate outperformed hedge fund aggregate returns at 1.99 percent on July 31, 2018.

Given the returns in the markets and for T-Bills, why is investor sentiment toward hedge funds so strong? There are several sound reasons, but the 2 at the forefront are these. The first is the fact that a substantial number of hedge funds are performing at many multiples of aggregate industry performance. For example, according to the Hedge Fund Compensation Report, one in four survey respondents reported their firm to have experienced gains of 10 percent or greater in 2017.

With the potential of gains in the 10, 20 or even 25 percent range on the table, it is not difficult to understand why investors are attracted to hedge funds. One is unlikely to see returns at that level in T-Bills or the S&P 500.

The second reason for hedge fund enthusiasm lies in the current climate of market volatility. While there has been little change in T-Bill returns, which can be enumerated in basis points, the same does not hold true for the Dow Jones Industrial Average. For example, on February 8, 2018, the Dow was in the red at -3.47 percent, March 23, 2018 it stood at -4.8 percent, May 2, 2018 saw the Dow at -3.21 percent and as recently as June 27, 2018 the Dow was down -2.43 percent.

The S&P 500 has exhibited similar volatility in 2018 and the NASDAQ…not so much.

Investors, particularly those of the institutional variety, are not huge fans of volatility. Logically they have turned to hedge funds as a counter. If they are astute enough to select the right fund, they may also reap out sized gains, thus addressing 2 major concerns, return and volatility.

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