Hedge Funds Positioned to Stabilize Portfolios During US Elections: UBS

In August, financial markets experienced significant volatility and sudden reversals, primarily influenced by disappointing economic data from the United States and increasing worries about the economy’s direction, according to analysts at UBS.

Despite these challenges, risk assets demonstrated resilience, with global equities rising by 2.5% and global bonds gaining 1.1%. Hedge funds, while trailing behind with a more modest gain of 0.3%, played a crucial role in providing stability during the tumultuous market conditions.

UBS points out that hedge funds are uniquely suited to stabilize portfolios, especially with the upcoming U.S. presidential election on the horizon.

Performance among hedge fund strategies varied, with equity-hedge managers leading with monthly gains of 0.7%. They were closely followed by relative value strategies, which saw increases of 0.6%, and event-driven strategies that rose by 0.4%. Conversely, macro managers encountered difficulties, facing an overall decline of 1.5%. Commodity trading advisors notably suffered the most, falling by 2.6%, while discretionary macro managers experienced a more modest decline of 0.9%.

The analysts at UBS noted that managers with lower market directionality outperformed those with higher beta exposure, reaffirming the advantages of hedge funds’ diverse strategies in unpredictable market scenarios.

Looking ahead, UBS analysts believe that several key factors, including possible interest rate cuts by central banks, changing economic indicators, geopolitical events, and the forthcoming U.S. presidential election, will influence market dynamics in the coming months, potentially leading to further volatility.

August’s market shifts highlighted the speed at which conditions can change, underscoring the necessity of maintaining a diversified portfolio to mitigate risks associated with traditional investment methods. Historically, hedge funds have shown their capability to perform well during turbulent periods, particularly during significant events like U.S. elections. UBS analysts suggest that such an environment offers strong opportunities for hedge funds to capitalize on market dislocations, ultimately improving portfolio diversification.

Investors are encouraged to focus on low net equity long/short strategies, which can take advantage of market dispersion and limit vulnerability to possible downturns, complementing traditional equity holdings. UBS also recommends diversifying within alternative credit strategies, advocating for tactical managers who can navigate sectoral or regional discrepancies and adopt net-short positions if economic conditions unexpectedly worsen.

The current macroeconomic climate raises interest in strategies that leverage macroeconomic shifts. Historically, macro funds have adeptly navigated differing global cycles and central banking policies, delivering substantial diversification benefits during turbulent times.

UBS highlights that multi-strategy platforms, with their flexible methods for adjusting investment strategies to changing market conditions, provide a comprehensive solution for managing risk and pursuing returns across various scenarios.

While hedge funds present significant potential for portfolio stability, analysts at UBS remind investors to remain cognizant of the unique risks associated with these investments, such as partial illiquidity, leverage, complexity, and the wide variability of returns among different managers.

The market developments in August illustrate the challenges hedge funds faced amid heightened volatility and shifting sentiment, especially after the Bank of Japan’s recent rate hike and concerns regarding the U.S. economic recovery. Despite pronounced fluctuations in global equity markets and looming geopolitical risks, hedge funds managed to achieve a 0.3% gain month over month, with a year-to-date increase of 6.8%, underscoring their potential to provide stability in uncertain conditions.

Certain hedge fund strategies particularly excelled: relative value convertible arbitrage managers reported a 1% gain in August, benefitting from market dislocations and volatility, while equity market neutral funds increased by 0.7%.

As the markets approach the U.S. elections and navigate the broader economic landscape, UBS remains hopeful about the role hedge funds can play in stabilizing portfolios alongside generating strong returns. In light of evolving economic conditions and potential volatility, hedge funds are well-positioned to offer the diversification and adaptability that investors need to traverse an increasingly complex investment environment.