In recent weeks, market conditions switched swiftly from panic mode to exuberance mode. Risk assets bottomed out at the turn of the year, and since then, global equities were up by 15%. Interestingly, the rebound in equities did not prevent bond markets to post additional gains in early 2019.
In the meantime, hedge fund strategies experienced a symmetric move. The strategies that suffered in December such as L/S Equity and Relative Value Arbitrage rebounded recently, while those resilient at the end of 2018, such as CTAs, lagged behind so far in Q1 due to their short equity positions.
In terms of positioning, L/S Credit strategies were among the very few to take advantage of deteriorated market conditions to add risk in late December.
Concurrently, CTAs have dramatically increased their long fixed income positions over the last three months and we are concerned about the impact a bond trend reversal might have on their performance going forward.
What does this mean in terms of strategic allocation? First, we prefer strategies that were relatively resilient during the downturn and didn’t suffer during the rebound. This includes Merger Arbitrage and Fixed Income Arbitrage and to a lesser extent L/S Equity Market Neutral and Global Macro. Second, we stay cautious on L/S Equity strategies with an elevated market exposure and prefer flexible L/S strategies that can adjust their beta swiftly. Third, the outlook on EM assets has improved since the Fed has turned less hawkish. EMfocused Global Macro strategies could benefit from it.
Finally, we continue to believe that alternative strategies are attractive relative to traditional assets at this stage of the business cycle. However, caution is required on strategies with a long equity market bias and selectivity is key from both a top-down and bottom-up perspective.
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