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A Closer Look at Hedge Fund Under-Performance

Posted By Barry Ritholtz On December 9, 2013 @ 8:00 am In Hedge Funds,Trading | Comments Disabled

 

“The $2.5 trillion hedge-fund industry, whose money managers are among the finance world’s highest paid, is headed for its worst [1] annual performance relative to U.S. stocks since at least 2005.

The funds returned 7.1 percent in 2013 through November, according to data compiled by Bloomberg. That’s 22 percentage points less than the 29.1 percent return of the Standard & Poor’s 500 Index, with reinvested dividends, as markets rallied to records.”

-Hedge Funds Trail Stocks by the Widest Margin Since 2005 [2], Bloomberg

 

Hedge fund performance – and under-performance – is an area of research I have been intrigued about for several years now. It is a complex, nuanced issue which many folks misunderstand. I was reminded of this over the weekend, courtesy of a Bloomberg article titled Hedge Funds Trail Stocks by the Widest Margin Since 2005 [2].

The numbers cited above are eye-popping: The average hedge fund is under-performing the S&P500 by over 2000 basis points this year alone. That is an astonishingly poor showing. As Saijel Kishan & Kelly Bit point out in their article, hedge funds have “underperformed the S&P 500 by 97 percentage points since the end of 2008.” The last time the fund industry outperformed U.S. stocks was in 2008. That year, they lost (depending upon which industry data you use) somewhere between 19 and 29 percent; the S&P 500 declined 37 percent. Prior to 2008, you need to go back to 1993 to find similar outperformance when they were up 31 percent versus a 10 percent increase for the S&P.

In a presentation at the Retirement Security conference at the Kennedy School at Harvard University this summer (The High Cost of Neuro-Financial Errors: How Cognitive Bias and Performance Chasing leads to Investing Failures [3]) I divided the explanations for hedge fund performance into five categories: 1) Industry Size; 2) Fund Size; 3) Unhedged Hedge Funds and the Financial Crisis; 4) Drag from fees; 5) Unsmooth alpha distribution. A brief look at each will put the poor performance into some context.

 

Continues here [4]


Article printed from The Big Picture: http://www.ritholtz.com/blog

URL to article: http://www.ritholtz.com/blog/2013/12/a-closer-look-at-hedge-fund-under-performance/

URLs in this post:

[1] worst: http://www.bloomberg.com/quote/BBHFUNDS:IND

[2] Hedge Funds Trail Stocks by the Widest Margin Since 2005: http://www.bloomberg.com/news/2013-12-06/hedge-funds-trail-stocks-by-the-widest-margin-since-2005.html

[3] The High Cost of Neuro-Financial Errors: How Cognitive Bias and Performance Chasing leads to Investing Failures: http://www.ritholtz.com/blog/2013/06/romancing-alpha-forsaking-beta-3/

[4] Continues here: http://www.bloomberg.com/news/2013-12-09/the-five-reasons-hedge-funds-underperform.html

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