8 Nov 2010
Hennessee Group has announced that the Hennessee Hedge Fund Index advanced +1.95% in October (+6.75% YTD), while the S&P 500 advanced +3.69% (+6.11% YTD), the Dow Jones Industrial Average increased +3.06% (+6.62% YTD), and the NASDAQ Composite Index climbed +5.86% (+10.50% YTD). Bonds also advanced, as the Barclays Aggregate Bond Index increased +0.36% (+8.33% YTD).
The Hennessee Long/Short Equity Index advanced +1.72% in October (+5.36% YTD). Fundamentals continued to take a back seat to bigger picture macro themes, such as QE2 and mid-term election results, which led to broad based gains. While managers were able to generate positive results for investors during the month, the ongoing “risk on/risk off” trading environment continues to make it difficult for fundamentally-based managers to generate alpha on a consistent basis. Managers generally view corporate earnings and equity valuations as positive and believe equities could trend higher in the near term. However, many have been conservatively positioned this year given the challenging market environment and longer term economic head winds. In recent weeks, many have somewhat reluctantly increased both net and gross exposure levels in order to participate in an expected fourth quarter rally. During the month of October, materials and technology long positions were top performers. Material stocks were boosted by the Fed's announcement of an additional round of quantitative easing while information technology continued to benefit from increasing M&A activity and higher buybacks as well as favorable fundamentals. The short side of the portfolio continues to be challenging as stocks remain highly correlated and volatile.
Arbitrage and event driven managers were positive in October, as the Hennessee Arbitrage/Event Driven Index advanced +1.97% (+9.33% YTD). Fixed income markets gained in October in anticipation of additional quantitative easing and corresponding bond purchases by the Fed. During the month, the Barclays Aggregate Bond Index advanced +0.36% (+8.33% YTD) and the BofA Merrill Lynch U.S. High Yield Index increased +2.39% (+14.44% YTD), while longer term Treasury prices declined as investors increased risk appetites. Spreads tightened in October, with high yield spreads reaching 592 basis points from 629 basis points at month end. The Hennessee Distressed Index increased +1.99% in October (+9.87% YTD). Managers benefited from the continued market rally and steady improvements in investor risk tolerance. Many distressed managers had maintained hedges due to concerns of a possible double dip recession, which served as a drag on performance in October. The Hennessee Merger Arbitrage Index advanced +1.24% in October (+5.53% YTD). Managers continue to be well invested in merger arbitrage. Spreads are somewhat tight with “safe” deals currently yielding 4% to 6%. However, competitive bidding situations have provided additional opportunity for gains. Managers expect deal activity to increase over the next couple years as companies have record levels of cash and the credit markets remain open. The Hennessee Convertible Arbitrage Index advanced +2.49% (+9.90% YTD) in October. Convertible arbitrage portfolios gained due to a positive carry, tightening credit spreads, and restructuring activity.
The Hennessee Global/Macro Index advanced +2.40% in October (+6.87% YTD). The international equity markets continued to rally along with the domestic equity markets in October as the MSCI All Country World & Frontiers Market Index gained +3.5% (+5.6% YTD) for the month. While managers focused on international equities were able to generate positive results during the month, reduced exposures and hedges led to underperformance on a relative basis due to the broad based rally. The Hennessee International Index gained +3.37% for the month (+9.34% YTD) while the Hennessee Emerging Markets Index gained +2.38% (+10.26% YTD). Managers benefited from increased net exposure levels and from positions in Europe. The Hennessee Macro Index advanced +1.90% for the month (+4.84% YTD) as October continued to be a “risk on” month. The U.S. dollar declined against the Euro and the Yen, while commodities rallied, as the Dow Jones-UBS Commodity Index advanced +4.98% (+5.92% YTD). Managers generated profits in sugar, which surged +24% in October and reached a 29 year high. Gold advanced for the month, reaching a new high of $1,398 in early November. In the Treasury market, short term rates fell, with the 2 Year Treasury declining from 0.42% to 0.34%, while yields on the 10 Year and 30 Year Treasury rose as investors increased risk tolerance.
“The financial markets continued to rally as the companies reported solid earnings and the Fed announced an additional round of quantitative easing. Hedge funds posted strong positive performance, but lagged traditional benchmarks due to conservative exposure levels and losses from hedges,” commented Charles Gradante, Co-Founder of Hennessee Group. “Arbitrage, event driven and credit strategies continue to drive gains, outperforming long/short equity strategies for the month and year-to-date.”
“For the year, the average hedge fund is performing in line with broad equity benchmarks. According to the Hennessee Hedge Fund Index, only about 50% of hedge funds are outperforming the S&P 500,” said Lee Hennessee, Managing Principal of Hennessee Group. “Through the first ten months of this year, asset and market correlations have remained extremely high relative to historical standards, which has created challenging environment for hedge funds.”
The Hennessee Long/Short Equity Index advanced +1.72% in October (+5.36% YTD). Fundamentals continued to take a back seat to bigger picture macro themes, such as QE2 and mid-term election results, which led to broad based gains. While managers were able to generate positive results for investors during the month, the ongoing “risk on/risk off” trading environment continues to make it difficult for fundamentally-based managers to generate alpha on a consistent basis. Managers generally view corporate earnings and equity valuations as positive and believe equities could trend higher in the near term. However, many have been conservatively positioned this year given the challenging market environment and longer term economic head winds. In recent weeks, many have somewhat reluctantly increased both net and gross exposure levels in order to participate in an expected fourth quarter rally. During the month of October, materials and technology long positions were top performers. Material stocks were boosted by the Fed's announcement of an additional round of quantitative easing while information technology continued to benefit from increasing M&A activity and higher buybacks as well as favorable fundamentals. The short side of the portfolio continues to be challenging as stocks remain highly correlated and volatile.
“Managers believe that the second round of quantitative easing is bullish for the financial markets, at least through year-end. The ‘Don't Fight the Fed’ mantra is in effect,” commented Charles Gradante. “However, once the Fed stops easing, the music will stop. There is potential for a new financial crisis, perhaps in the interest rates swap market. History shows that you cannot implement an extreme policy, in this case monetary easing, and manipulate the free market, such as the yield curve, without causing someone to be ‘holding the bag’ when policy changes.”
Arbitrage and event driven managers were positive in October, as the Hennessee Arbitrage/Event Driven Index advanced +1.97% (+9.33% YTD). Fixed income markets gained in October in anticipation of additional quantitative easing and corresponding bond purchases by the Fed. During the month, the Barclays Aggregate Bond Index advanced +0.36% (+8.33% YTD) and the BofA Merrill Lynch U.S. High Yield Index increased +2.39% (+14.44% YTD), while longer term Treasury prices declined as investors increased risk appetites. Spreads tightened in October, with high yield spreads reaching 592 basis points from 629 basis points at month end. The Hennessee Distressed Index increased +1.99% in October (+9.87% YTD). Managers benefited from the continued market rally and steady improvements in investor risk tolerance. Many distressed managers had maintained hedges due to concerns of a possible double dip recession, which served as a drag on performance in October. The Hennessee Merger Arbitrage Index advanced +1.24% in October (+5.53% YTD). Managers continue to be well invested in merger arbitrage. Spreads are somewhat tight with “safe” deals currently yielding 4% to 6%. However, competitive bidding situations have provided additional opportunity for gains. Managers expect deal activity to increase over the next couple years as companies have record levels of cash and the credit markets remain open. The Hennessee Convertible Arbitrage Index advanced +2.49% (+9.90% YTD) in October. Convertible arbitrage portfolios gained due to a positive carry, tightening credit spreads, and restructuring activity.
“Many managers believe that the environment for merger arbitrage is improving and that we may be at the beginning of a ‘multi-year cycle’ of deal activity” commented Charles Gradante. “There are many quality companies with little organic growth who are seeking to grow revenues. Corporations have over $1.8 trillion in cash and liquid assets on their balance sheets, and they have the ability to raise capital at historically low rates. In addition, private equity groups have substantial assets that they need to invest or return.”
The Hennessee Global/Macro Index advanced +2.40% in October (+6.87% YTD). The international equity markets continued to rally along with the domestic equity markets in October as the MSCI All Country World & Frontiers Market Index gained +3.5% (+5.6% YTD) for the month. While managers focused on international equities were able to generate positive results during the month, reduced exposures and hedges led to underperformance on a relative basis due to the broad based rally. The Hennessee International Index gained +3.37% for the month (+9.34% YTD) while the Hennessee Emerging Markets Index gained +2.38% (+10.26% YTD). Managers benefited from increased net exposure levels and from positions in Europe. The Hennessee Macro Index advanced +1.90% for the month (+4.84% YTD) as October continued to be a “risk on” month. The U.S. dollar declined against the Euro and the Yen, while commodities rallied, as the Dow Jones-UBS Commodity Index advanced +4.98% (+5.92% YTD). Managers generated profits in sugar, which surged +24% in October and reached a 29 year high. Gold advanced for the month, reaching a new high of $1,398 in early November. In the Treasury market, short term rates fell, with the 2 Year Treasury declining from 0.42% to 0.34%, while yields on the 10 Year and 30 Year Treasury rose as investors increased risk tolerance.
“Many managers were short long term Treasuries this year, and it was an unprofitable trade. Most were forced to cover the trade at loss,” commented Charles Gradante. “However, many believe that it might be time to reevaluate the trade. With 90% of the Feds purchases in the 2 through 10 year sector, several hedge funds managers believe that the rates in the long bond will climb as the mere worry of future inflation could drive long-term rates higher.”
