Hedge funds' miserable performance has exceeded even that of the worst stock market in a decade, and bodes poorly for the group in the coming year. From a universe of 450 hedge funds monitored by HSBC’s alternative investment group, only 16 funds that had reported full year 2018 results through Jan. 4 delivered positive returns before fees. Meanwhile, 169 hedge funds appeared to be in positive territory, but had yet to report.

Even if all of those firms ended up for the year, a best case scenario, the majority of funds may have still lost money in 2018, a sobering reality given the hefty fees investors are paying, as outlined by the Financial Times.

Stock Market Turmoil, Rising Rates Batter Hedge Funds

Some of the largest hedge funds — including those managed by GAM, Schroder’s and BlackRock — posted double-digit losses up to more than 20% in 2018. As heightened volatility shook global markets, rising U.S. interest rates led to widespread difficulties for alternative managers. The industry saw its biggest annual loss since 2011, declining 4.1% on a fund-weighted basis, according to Hedge Fund Research Inc., per Bloomberg

The declining performance stems from a broad range of failed macro and micro strategies, which would require a major change to reverse in 2019. 

"Trend-centric strategies expect to be hurt at points of price reversal, and the pay-off to bearing this risk is the ability to perform positively in sustained risk-off or bear market environments,” said Anthony Lawler, head of GAM Systematic. Computer-driven trend-following commodity trading advisers, which manage about 10% of the industry’s assets, posted their worst performance in 16 years. Lawyer noted that while 2018 was a tough year, it was not one that caused the Swiss asset manager to question whether market dynamics have changed.

BlackRock, the world’s largest money manager, attributed weakness to U.S. trade tensions, rate hikes, and broader macroeconomic uncertainty regarding the timing of the market cycle, all which hurt the performance of export-oriented companies in its portfolio. Many market watchers expect these headwinds to persist or intensity in 2019.

Looking Ahead

Poorly managed hedge funds may end this year even more depressed, given it is unlikely that they will be able to exploit the coming turmoil without getting burned. This highlights the failure of active managers, much like active mutual funds, which have seen a major exodus in recent years. While top hedge funds have fought to justify their existence on the basis that their active strategies will shine in a down year, data now suggests otherwise. Unless their performance improves, the migration to passive funds should continue to accelerate.