Hedge funds are on pace for the worst annual year since Lehman Brothers went bankrupt


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Hedge fund woes continue apace

The hedge-fund industry is on track to post its worst performance since the year that Lehman Brothers went bankrupt, accelerating a crisis that brought the global financial world to its knees.

A composite measure of hedge-fund performance is down 1.66% year-to-date, the worst performance in the first 10 months of a year since 2011, and if that level holds through the remainder of 2018, it would represent the ugliest losses for the industry since 2008, according to data from Hedge Fund Research.

October was particularly brutal, with the aggregate return for the industry turning in a negative 2.98% during the month, according to the HFRI Fund Weighted Composite Index, which tracks the performance of more than 1,500 hedge funds across the globe.

A late surge in performance in 2011 helped to save the hedge-fund sector from ending that year in the red, and if a similar comeback doesn’t also materialize this time around, this will be hedge funds’ worst return in a decade, when the index fell 19% against the backdrop of toxic mortgage assets that were proliferated world-wide, eroding investors confidence in the market.

Although a similar dire scenario wasn’t at play this time around, that didn’t likely bring hedge-fund managers much solace during a downdraft in stocks that resulted in the Nasdaq Composite Index

COMP, -0.81%

first decline of 10% from a peak in two years and the ugliest monthly drop for the Dow Jones Industrial Average

DJIA, -0.23%

and the S&P 500 index

SPX, -0.50%

in years.

“Financial market volatility spiked in October as global equity markets experienced a violent reversal, with many entering correction territory in only several weeks, contributing to the worst month of performance for the hedge fund industry in seven years,” Kenneth Heinz, president of HFR, said in a news release.

More troubling for the industry is that recent results underscore a multiyear trend of underperformance among hedge funds, which have routinely charged investors fees of 2% to manage their funds and pocketed 20% of profits. However, hedge funds have failed miserably at producing so-called alpha, or returns above a benchmark. During hedge fund’s halcyon days, from 1990 through 2002, the industry beat the S&P 500 10 out of 13 years, but since that time, they have only logged 3 years in which they outperformed the broader market.

Last year, for instance, The HFRI index gained by 8.6% versus a nearly 21.8% increase for the S&P 500. In fact, 2011 was the past year when hedge funds outperformed the broader S&P. And even factoring October’s downdraft, the S&P 500 is up 5% thus far in 2018.

This extended period of underperformance has been one of the driving factors behind a broad shift toward passive investment strategies, which have regularly outperformed active strategies, especially when accounting for fees.

Despite these bearish trends for the industry, the number of new hedge funds has been outstripping the number of liquidated hedge funds for four straight quarters, according to HFR. That is after five straight quarters where the total number of hedge funds was on the decline, suggesting that many investors are still hopeful that while the average hedge fund underperforms, they have found one of the minority of funds that are beating the market.

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