Data from hedge fund research firm PivotalPath reveals that U.S. equity long/short hedge funds have reduced the level at which swings in the S&P 500 impact their profits or losses to a six-year low. Portfolio managers are increasingly avoiding aggressive bets, adopting a more defensive stance amidst mounting concerns about the macroeconomic environment.
PivotalPath’s Chief Executive Officer, Jon Caplis, commented on the shift in hedge fund strategies, saying, “The notion that rates will stay higher for longer is much more accepted today than when the Federal Reserve was continuously hiking in late 2021/2022. While these higher rates haven’t necessarily been fully factored into lower valuations, they have generally eroded confidence.”
A recent surge in stock prices, concentrated mainly in select sectors such as mega-cap technology companies, has failed to generate the typical exuberance associated with broader market rallies, according to Caplis.
The exposure of so-called fundamental long/short hedge funds to the S&P index declined in September to its lowest level for any rolling 12-month period since 2017, as reported by PivotalPath, a data firm overseeing $3 trillion in global hedge funds.
The funds’ beta, which measures the volatility of their returns in comparison to the S&P, currently stands at 0.3, a departure from the historical average of 0.43 since 2008, indicating a more conservative positioning.
This defensive posture has translated into reduced gains for hedge funds this year. Fundamental equity long/short hedge funds with a focus on the U.S. have generated an 8.2% return through September, as per PivotalPath’s data. This lags behind the S&P 500’s nearly 12% gain in the first nine months of the year.
Banks have observed a similar trend in the exposure of their clients’ portfolios. JPMorgan Chase (NYSE:JPM), in a recent note, highlighted a noticeable lack of conviction among investors, citing challenging macroeconomic conditions, the geopolitical backdrop, and underperforming long positions as contributing factors.
Last week, a report from Morgan Stanley’s prime brokerage, obtained by Reuters, disclosed that hedge funds have reduced net leverage—a measure of risk appetite measured by the difference between long and short positions—to levels nearly matching records over the last decade.
Jim Neumann, Chief Investment Officer at hedge fund advisory firm Sussex Partners, acknowledged multiple rounds of de-risking among funds but noted that performance has been lackluster. Neumann commented, “My guess is that managers would like a strong year-end but will only jump in if the ‘Santa Claus’ rally appears sustainable. They cannot afford to take undue risks, given the mediocre performance in 2023.”
