Jean-Baptiste Berthon

Jean-Baptiste Berthon

Senior Strategist, Cross Asset Research

Lyxor Asset Management


Relative Appeal Of Hedge Funds Vs. Passive Fixed Income Funds

06 Aug 2018

Investment Partners

The week was mixed for hedge funds. CTAs were down, hit in their long EU bonds and long energy exposures. L/S Equity and Special Situation funds suffered from unstable sector leadership and momentum.

This week, we focus on Fixed Income Arbitrage funds (FI Arb.). Investors have turned increasingly bearish regarding credit markets, concerned by rich valuations, the on-going monetary normalization and an ageing cycle. Credit returns in Europe have been anemic year-to-date and were negative in Emerging markets. Yet, trading conditions proved quite resilient in the U.S. Benefits from the tax reform, limited signs of a pending default cycle and some improvements in credit metrics played out favorably. While expectations from beta remain overall moderate, they are uneven across regions.

Credit alpha opportunities also prove heterogeneous. We find that in most markets, a lack of themes and poor single issues differentiation offer limited potential for mainstream funds. This is reflected by strong correlation across sectors and single issues, and poor dispersion. However, several factors should support FI Arb. funds. First, while the potential seems limited for soft-catalyst issues, idiosyncratic opportunities are fueled by strong corporate activity and a pipeline of restructuring cases in energy, retail, media and smaller issues. Second, short opportunities, which have long destroyed alpha, are now back in the radar and in managers’ books. Third, cross-credit arbitrage (typically targeted by multistrategy funds) offer arbitrage potential. Continued monetary normalization is resulting in greater differentiation across credit segments.

In consistence with above, Event-Driven/Deep-value credit approaches, as well as Structured Arb. fared well. Corporate and Convertibles strategies decently navigated challenging conditions. These are currently cautiously positioned, but managed to produce consistent alpha without meaningful carry. In contrast, funds focused on sovereign arbitrage (in many ways similar to Global Macro) struggled. While credit markets remain constrained, we see a growing relative appeal of hedge funds which can extract value where mutual and passive fixed income funds cannot. We still favor Multistrategy funds and are neutral on L/S Corporate.


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