July hedge fund performance and positioning

Hedge funds delivered a moderate performance in July, rising by 1.2% for the month and 6.4% year-to-date (YTD), UBS noted in a Thursday report.

Still, hedge funds underperformed both equities and bonds, driven primarily by challenges in macro and relative value strategies. However, directional strategies continued to lead performance, with alpha across most strategies remaining positive due to significantly lower volatility compared to equities and bonds.

According to UBS, July was marked by choppy market conditions, with equities experiencing a notable 5% drawdown due to concerns over a potential bubble in AI stocks. This was followed by a rebound on the last trading day of the month, spurred by the Federal Reserve’s indication of imminent rate cuts.

Hedge funds, while underperforming, still saw pockets of strength, particularly in directional equity and event-driven strategies, UBS reveals. Managers across various strategies took a cautionary stance, de-risking and reducing exposure to beta, awaiting further clarity on geopolitical and fundamental market conditions.

In equity long/short strategies, managers were aligned with global equities, but alpha generation was challenging.

“Managers significantly de-grossed on the back of heightened market volatility over the month and selling long winners that had built up large profit/loss cushions,” the note says.

Despite the headwinds, certain strategies like fundamental value and multi-strategy outperformed, while technology-oriented managers faced losses due to reversals in crowded positions.

Event-driven strategies outperformed in July, driven by gains from activist managers and robust activity in corporate markets, such as buybacks and mergers. Merger arbitrage saw healthy deal completions, and credit arbitrage remained positive, though performance was slightly muted by losses in communication services.

Meanwhile, macro strategies presented a mixed performance, with systematic macro managers struggling, particularly in fixed-income and currency trades. In contrast, discretionary macro managers fared better.

Relative value strategies provided stable returns, with credit strategies leading the way. Convertible arbitrage and structured credit strategies posted gains, although risk levels remained relatively unchanged compared to previous months.

Looking ahead, UBS remains bullish on the hedge fund opportunity set, noting that the environment remains conducive for stock-picking and that easing financial conditions could boost merger and IPO volumes.