Dec 5, 2019

There may only be huge hedge funds left soon

Dion Rabouin, author of Markets

Illustration: Rebecca Zisser/Axios

Bad news has continued for the hedge fund industry this year. Overall hedge fund returns have continued to trail both the S&P 500 and a mix of 50% global stocks and 50% global bonds by a wide margin.

What's happening: There are too many hedge funds, and too many of them are using simple hedging and shorting strategies that don't work, Dev Kantesaria, founder and portfolio manager of Valley Forge Capital Management, argues. And that may be changing soon.

What we're hearing: "Hedge funds have a troubled future," Kantesaria tells Axios in an email. "The idea of controlling risk through financial engineering such as hedging and shorting is a broken model."

  • That was especially clear during the fourth quarter of 2018 when hedge funds broadly failed to deliver outperformance during the stock market's downturn, he says.

What's next: Kantesaria isn't calling for a full-on wipe out of the industry, but does expect new managers will increasingly be crowded out as dollars flow only to the largest hedge funds, or "those with $1 billion or more in assets, despite mediocre performance over the last decade," he says.

  • "There is a natural tendency for allocators to invest with the larger, well-known names even though they may represent less compelling stories than their smaller peers."
  • "Emerging managers are struggling to capture allocators’ attention in the crowded marketplace. Starting a hedge fund today as an unknown investor is a very difficult proposition."

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