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Low Volatility Returns Draw Hedge Fund Investors towards Relative Value Strategies – November 2015

by Joseph Lee

  • 18 Nov 2015
  • HF

With recent volatility in equity markets, investors may be seeking hedge funds that are able to provide smoother returns. Relative value strategies generated returns of 4.55% in 2014, and have followed a similar path so far in 2015 (3.92% YTD), with only two negative months compared with the Preqin All-Strategies Hedge Fund benchmark, which has posted four negative months and yielded 0.36% in 2015 YTD. Preqin’s Hedge Fund Investor Profiles database currently tracks 2,065 hedge fund investors with a preference for relative value hedge funds, representing approximately 41% of all active hedge fund investors.

Given that 35% of investors surveyed in Preqin’s Investor Outlook: Alternative Assets, H2 2015 regarded fees as a key issue facing the hedge fund industry, Preqin’s Hedge Fund Analyst online service reveals that the fee structure of relative value funds may be attractive to investors. The average management fee for relative value funds is 1.46%, lower than the Preqin All-Strategies Hedge Fund benchmark of 1.51%. Furthermore, the strategy’s 17.98% mean performance fee is below the All-Strategies Hedge Fund benchmark of 19.81%, and its mean lock-up period of 2.98 months is shorter than 5.81 months for all hedge funds.

2015 has so far seen 86 single-manager hedge fund launches with a core focus on relative value, however, only one such fund of hedge funds vehicle has launched, Hatteras Market Neutral Fund. In spite of this, 60% of funds of hedge funds have a preference for relative value strategies, as illustrated in the chart below. Relative value strategies are more common among investors with a longer term investment horizon, perhaps favoured for their market-neutral characteristics which are less affected by sudden market fluctuations.

Relative value funds have delivered higher risk-adjusted returns over a three- and five-year horizon, posting Sharpe ratios (RFR=2%) of 2.96% and 2.62% respectively to the 1.22% and 0.91% posted by the Preqin All-Strategies Hedge Fund benchmark. Relative value funds have also generated lower volatility, with a five-year annualized volatility of 1.79% to 4.82% for all hedge funds.

Approximately 18% of investors looking to allocate to hedge funds within the next 12 months plan to invest in relative value funds, according to Preqin’s Hedge Fund Searches and Mandates module; this is a slight increase from the 16% of hedge fund investors this time in 2014. Given the recent volatility and uncertainty in equity markets, investors have looked towards more market-neutral vehicles such as relative value strategies to deliver absolute returns while ensuring low volatility. It is therefore likely that relative value strategies will remain a prominent fixture within the portfolios of institutional hedge fund investors over the next 12 months.

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