Analysis: Spike in bond yields dented some hedge fund February returns

REUTERS: A sharp spike in bond yields last week caught some hedge funds unaware, and saw macro and long-short funds in general give back February profits to end the month modestly up, several market participants said.

Hedge funds, which target returns that outperform the markets, take positions in a variety of assets such as bonds, currencies and equities, depending on the strategy employed.

The sharp rise in yields - which saw ten-year Treasury yields hit a one-year high of over 1.6per cent on Thursday - came after a tumultuous January when some funds got burned by holding short positions in stocks caught up in the GameStop trading frenzy.

"The pace and the degree of the move in yields was a bit more aggressive than people thought," said Brooks Ritchey at US$10.7 billion hedge fund solutions group K2 Advisors, which invests client money in hedge funds.

Long-short equity hedge funds don't take bets in the bond market but many failed to anticipate the spillover from the bond market, which shaved US$2 trillion from global equities, said several fund-of-funds.

Troy Gayeski, partner and co-chief investment officer at SkyBridge Capital, which runs US$3 billion in its main fund, said that equity funds went from having a "monster month" up 4-6per cent with one as high as 11per cent, to only gaining 2-3per cent.

"Very similar to the back half of January, many of the longer-bias long-short managers, or equity-focused event funds gave back a large portion of their gains from earlier in the month," said Gayeski.

Comprehensive data on performance for the month is not expected until mid-month. However, HFRX data, which is made up of a small group of global funds and can be an early indicator of industry performance showed that equity-focused hedge funds ended Friday up 1.5per cent for the month, after gains of 4.1per cent in the first 19 days of February.

Meanwhile, the HFRX macro index ended the month up 1.3per cent on Friday after performance of 2.7per cent between Feb. 1 and Feb. 19, the data showed. Macro hedge funds bet on macroeconomic trends, often using currencies, bonds and commodities.

The tougher February came after a challenging beginning to the year. Hedge funds began 2021 up a modest 0.9per cent on average in January after several stocks, led by videogame maker Gamestop were targeted by retail investors, showed data from industry tracker Hedge Fund Research (HFR).

Macro-focused hedge funds posted even smaller gains of 0.2per cent in January while long-short strategies made 0.78per cent, according to the HFR data.

Long-short "alpha", or outperformance, also showed a fall in performance amid the sharp rise in bond yields, reaching as high as 2.7per cent for the first 19 days of the month before falling in the last week of February, according to a note from Goldman Sachs seen by Reuters. Goldman did not respond to a request for comment.

The yield spike came on expectations that an economic rebound would force the Federal Reserve to tighten monetary conditions sooner than anticipated. Yields have since retreated.

Darren Wolf, global head of investments, alternative investment strategies at Aberdeen Standard Investments, who manages US$13 billion in hedge fund assets, said that hedge fund managers "had a ‘don’t fight the Fed’ mentality, and didn’t have short rate bets on in much size," meaning the yield spike didn't benefit them.

Wolf said last week wasn’t a huge event for the macro managers in Aberdeen's portfolio, but added that they were up 1per cent to 2per cent on average in February after the strategy made gains of 2.3per cent for the entirety of 2020, according to HFR data.

"Some of our managers thought that the U.S. 10-year might trade near 1.5per cent sometime this year," said K2's Ritchey. "Some others thought that by year-end, rates might be 1.7per cent. But it was faster, farther than even the bond bears thought."

(Reporting by Maiya Keidan; editing by Megan Davies and Aurora Ellis)