Funds of funds may have gone out of fashion, but in many ways the new breed
of multi-strategy hedge funds such as Citadel and Millenium have taken their place. Funds of
funds have stagnated since the great financial crisis in terms of assets under management,
whilst multistrats have blossomed. And in 2022 we saw them outperform the traditional
long-short equity hedge funds by a big margin as their diversified, multi-layered approach
prospered as interest rates rose and stocks and bonds fell.
Whilst pureplay macro funds enjoyed a bumper 2022 as interest rates rose and differentials
widened, multistrats also delivered alpha.
We need only look at the performance of Citadel LLC. Ken Griffin’s fund notched up a record
annual profit for a hedge fund last year, underlining the outperformance by multi-strategy
funds in year of low returns for long-only equity investors.
Citadel Advisors made $16bn last year, the biggest dollar figure ever for a hedge fund. The
company delivered 38.1% on its core fund and made about $28bn in total gross profit.
According to LCH, it charged about $12bn in expenses and fees – hefty even by the standards
of funds-of-funds, generating a net $16bn.
It places Citadel’s profit in 2022 ahead of John Paulson’s $15.6bn in 2007, which was made
by betting against the subprime mortgage market in the US. And according to LCH, it means
Citadel is the most profitable hedge fund in history – overtaking Ray Dalio’s Bridgewater in
terms of lifetime returns.
Diversification is important. Citadel’s multi-strategy approach paid off amid a turbulent
year for financial markets. Whilst many macro funds had a great year as interest rates rose,
many equity funds struggled as the market sold off.
Many long-short equity managers suffered last year as the market tanked. Macro funds, long
in the doldrums due to ZIRP, profited from much higher interest rate volatility. Citadel is
a multi-manager fund running different strategies across multiple asset classes and
portfolios – similar to Millenium or Steve Cohen’s Point72.
Multistrats have lots of portfolio managers who can pursue their own strategies across
everything from M&A arbitrage and long-short equities to commodities, credit, macro,
quant and high frequency. Essentially, they can combine every potential hedge fund strategy
into one. Last year multistrat funds were the best performers after quant funds, which
benefitted from systematic trend following strategies.
Whilst Citadel had a blockbuster year, 2022 was not so good for a number of funds that
loaded up on growth stocks, such as Tiger Global and Chase Coleman.
HFR data shows hedge funds had their worst year since 2018 last year, mainly dragged down by
the performance of equities. However, macro and other diversified portfolios delivered
healthy returns. Meanwhile Reuters reported that hedge funds as a whole marked their worst
year of returns in 14 years.
Total global hedge fund capital finished the year at $3.83 trillion, a quarterly increase of
$44 billion, according to data from HFR. Its HFRI 500 Index topped the declines of equity
and fixed income markets, beating technology stocks by nearly 3000 basis points. The macro
index rose +14.2 percent last year, with contributions from a wide range of Macro
sub-strategies, including Commodity, Currency, Discretionary, Fundamental Discretionary
Thematic and Quantitative, Trend Following CTA strategies. Macro outperformed technology
equities by over 4700 bps, the highest outperformance margin since the index was created.
The truth is that multstrats, which also include the likes of Balyasny and Point72 in their
ranks of successful funds, have been outperforming traditional long-short equity funds for a
while. The end of the benign risk environment that marked the decade after the GFC and
emergence of much greater macro uncertainty and rates volatility has created the perfect
conditions for multistrats to prosper. Unlike the decade or so after the GFC, parking your
cash in an index fund and watching it multiply may no longer an option.
Macro and multistrats also look well placed for 2023.
Cambridge Associates notes in its 2023 outlook that diversification remains key. They state:
“As a strategy, macro has historically been less correlated to movements in the broader
stock market, helping to diversify portfolios,” said UBS in a note. “We think a continuation
of tight monetary policy and high volatility should prove favourable for macro managers in
2023.”
Thomas O’Mahony from Cambridge notes that “more diversified portfolios have delivered higher
returns with lower volatility than the classic balanced portfolio”. He adds: “The
combination of diversifiers that is most suitable for a portfolio depends on an investor’s
specific goals and circumstances. But as we move forward into 2023, likely a period of
continued macro uncertainty, we believe it is prudent to build resiliency into portfolios by
using the diversity of investment opportunities available.”
But it’s not all doom and gloom for long-short equity funds, with a return to positive
territory for the short rebate available to managers.
Eric Costa, Global Head of Hedge Funds, and Stephen Mancini, Senior Investment Director,
Hedge Fund Research, write: “This rebate, which short sellers receive when they borrow
stock, has ranged between -50 basis points (bps) and 0 bps for much of the last 15 years.
The recent shift of the short rebate into positive territory removes a clear hurdle for
long/short equity funds, and we expect it will help performances in this space improve next
year.”
Also they note that the market dynamics should create clearer winners and losers. “While
directional, growth-oriented long/short equity managers benefited the most from the zero
interest rate policy and quantitative easing regimes, the current economic environment
should result in more obvious winners and losers as companies must now compete for capital,”
they write.