The hedge fund trends for the rest of 2023 will be shaped by a range of factors, with inflation and its effects on the economy as a primary driver. Fund managers must strategize accordingly.
Just as the world - and the markets - were ready to find a way to live with the reality of COVID-19, another crisis couldn't wait to emerge: inflation.
And in a volatile environment and the public more socially conscious, hedge funds must rethink their strategies for investing and attracting clients.
This creates both challenges and opportunities for hedge funds.
Combine that with the growing importance of technology, hedge funds have a lot to consider for 2023. Below are some of the trends to watch.
Inflation is at 40-year highs, eating away at profit margins and consumer confidence.
And with each rate hike comes increased risk of recession.
The markets took a beating in 2022 as a result, and high inflation will dampen the outlook some for 2023. Many investment firms, including hedge funds, have not been immune from the downturn.
That said, if there could be a winner in the hedge fund space, it’s global macro funds.
By definition, global macro hedge funds attempt to profit from wild swings in the market usually caused by political or economic events.
And there is no shortage of political and economic events.
Kenneth Tropin, chairman of Graham Capital Management, a macro-based hedge fund management company, has seen his macro funds perform very well compared to previous years.
This is what Mr. Tropin had to say about the current situation:
“I see this environment for what we do continuing to be fertile for a long time, not just a year, not just next year, but as far as I can see. Now that will end at some point, but I don’t see that ending anytime soon.”
And Jonathan Glidden, the CIO for Delta Airlines’ pension plans, had this to say about macro:
“Volatility is up significantly across most asset classes. We believe macro managers can benefit from micro-opportunities presented by investors’ reactions to economic, policy and geopolitical news in today’s volatile environment.”
Indeed, macro hedge funds are shining right now.
The State of Wisconsin Investment Board (SWIB), for example, has seen portfolio returns of 16.3% in the last year for its macro fund.
In light of the success, one of its portfolio managers, Derek Drummond, said that he “never” believed hedging should be their purpose and that global macro strategies are more of a way to diversify and add alpha overlay to a portfolio.
In the current climate, some hedge funds perform better (or worse) than others.
According to Institutional Investor, here are some of their findings:
And funds dedicated to certain sectors have seen their fortunes swell, notably in energy and commodities.
But international banks with fund exposure to Russian entities, they’ve lost out.
Other notables with big losses are tech-focused hedge funds, as gloomy economic data sparked selloffs.
Going in to 2023, hedge funds’ respective gains and losses look to continue.
The collapse of FTX sent shockwaves through the entire crypto industry, and cryptocurrency total market capitalization fell under $800 billion, far below its peak of $3 trillion.
According to a PwC report, more than a third of hedge funds are invested in digital assets, and average allocation to digital assets increased from 4% to 3%.
While funds with exposure to Bitcoin have seen notable declines in their portfolio, it could always be worse.
One hedge fund admitted that half its capital was stuck on the FTX exchange!
While staying clear of crypto looks like a safe bet (or at the very least, don't put all your eggs in one basket), some hedge funds have a bullish outlook on crypto.
Man Group, a London-based investment firm with $183 billion in assets, is planning to launch a crypto-focused hedge fund.
And while crypto may be down, it’s not out, according to Bill Ackman, a hedge fund manager billionaire and CEO of Pershing Square Capital Management:
“I was initially a crypto skeptic, but after studying some of the more interesting crypto projects, I have come to believe that crypto can enable the formation of useful businesses and technologies that heretofore could not be created.”
It was a mixed bag for hedge funds in 2022, and it’ll likely continue being so in 2023, as market volatility and uncertainty remain high.
While there are winners, the prospects don’t look rosy to everyone.
After all, the hedge fund industry faces rising interest rates and end of ‘cheap financing’ with near-zero interest rates. These conditions make operating a fund more difficult.
New hedge fund launches fell to their lowest level since Q4 2008, and in the current environment, the number of new launches is likely to be on the lower side in 2023.
According to research from the Knight Foundation, only 1.4% of total US-based AUM was managed by diverse-owned firms in 2021, representing 0.4% growth from 2016.
And currently for hedge funds, 3.4% of US-based AUM is managed by minority-owned firms and 2.2% is managed by women.
And these numbers, small as they are, represent some progress, but not enough, according to investors.
Investors themselves are calling for improvements in DE&I (diversity, equity, & inclusion) for hedge funds.
According to a BNP Paribas study, investors are investing in women and minority-led funds 21% more than they were five years ago, with more growth for the future.
Indeed, hedge funds are starting to feel some “pressure” but in a good way, as there are benefits by focusing on DE&I and ESG.
Robert Howe, a principal at Mercer Advisors, shared his take:
“Just from a research point of view, cognitive diversity is great in an investment process. You have people from different backgrounds and with different mindsets who therefore challenge each other and ultimately make the better investment decisions.”
Jamie Kramer, head of alternatives solutions group at JP Morgan Asset Management, shared her view:
“If you tell hedge funds and institutional allocators that they’re missing out on superior returns and opportunities, purely because they’re not hiring from the biggest universes of talent, it could help to create this momentum and drive to invest in diverse fund managers.”
The 2% management fee of total assets and 20% fee for realized gains was a longtime industry standard, but that’s no longer the case.
According to Hedge Fund Research, in Q4 2020, hedge funds on average charged a 1.4% management fee and 16.4% performance fee. That is down from an average 1.6% and 19% a decade ago, respectively.
Fees on average may be lower, but that’s no reason to be discouraged.
Fund managers with solid track records can still command higher fees, and there is a lot of opportunity out there to raise assets and thrive in the current market.
Hedge funds can also find ways to cut costs and spend more time on revenue-generating activity, which will be explored in further detail in the outsourcing section below.
Having access to quality data and reporting is more important than ever, as well as having it right at your fingertips.
To stay competitive, hedge funds need to make full use of technology, optimizing efficiency in all processes:
When looking at specific ways to optimize in terms of technology, here are a few points to consider:
At Empaxis, we help hedge fund get the most out of technology by providing them with a cloud-based digital platform, TAMP1, that lets them see all reports and data in one spot.
In addition, we help hedge funds automate their workflows, speeding up turnaround times, reduce errors, and cut costs.
Hedge fund managers can do a lot, but they can’t do it all by themselves.
With rising costs and falling fees, managing everything in-house puts an extra burden on hedge funds. Outsourcing is a way for hedge funds to relieve that burden.
According to speakers at a conference for HedgeweekLIVE North America, the pandemic lockdown accelerated the trend toward outsourcing for hedge funds.
Alex Prylucki, managing partner for the investment advisory consulting firm LEVVR, pointed out that the benefits of outsourcing are a lot greater than any one single individual a firm can hire.
He also added that with outsourcing, firms can take advantage of time zones difference for outsourced activity. For example, US hedge funds can have trade reconciliations done overnight by service providers in Asia.
At Empaxis, our hedge fund clients leverage us for overnight trade reconciliation, with the help of our dedicated team in Delhi and Kolkata. Clients really appreciate having reconciled reports first thing in the morning.
The hedge fund trends show a mix of opportunities and challenges that lie ahead. Hedge funds can be successful in 2023 by mitigating the risk when it comes market volatility, cutting costs, leveraging tech, and having a diversified portfolio.
By taking advantage of our outsourcing solutions, automation services, and TAMP1 platform, hedge funds can slash their costs while improving long-term overall efficiency.
As mentioned before, above hedge funds can do a lot, but they can't do it alone, nor should they. When it comes to those challenges, Empaxis has solutions.