Benefits
Why invest in hedge funds? What are the benefits?
Hedge funds offer attractive returns to investors
- Returns are higher than equities
- Losses are smaller than equities
- Lower correlation decreases risk in the overall portfolio
Returns are higher than equities
Over the past ten years, hedge funds delivered a total return of 95%, while world equities returned only 4.3% over the same period*. This translates into a 6.92% annual return that an investor would have received from hedge funds compared with just 0.47% from world equities. Hedge fund returns were also more stable than world equities. Hedge fund volatility was 6.5% and a much higher 17% for world equities. In other words, hedge funds delivered higher returns than equities in the absolute sense, and also higher returns than equities when adjusted for the amount of risk taken.
Total/calendar year return of hedge funds and world equities
(Returns to 31 December 2010)
* HFRI Fund Weighted Hedge Fund Index compared to the MSCI World Index over the ten year period 01.2001-12.2010
Losses are smaller than equities
Containing losses is paramount in investment management. Hedge fund managers have lower risk tolerances than equity managers, given their focus on positive absolute returns. Risk management is a key focus for hedge funds and they have tight loss limits. After the losses incurred during the 2008 financial crisis, hedge funds had recovered by the third quarter of 2010. World equities have not yet recovered to their previous peak level.
Hedge fund and world equity performance during market crises
Lower Correlation decreases risk in the overall portfolio
Hedge funds offer higher diversification. They have access to a broader range of asset classes and a larger variety of investment tools. This results in a different return profile and a lower correlation to traditional asset classes. Although hedge funds often move in the same direction as equities, they tend to lose less in falling markets than equities. This is an important distinction because an investment that loses less on the downside, must recoup less, and hence outperforms in the long run.
