Hedge Funds Show Impressive Returns, Breaking the Norm

Hedge funds have been increasingly opting for larger size in recent years. The trend seems to be driven by a desire for greater economies of scale, as well as a belief that bigger funds are more likely to attract institutional investors. There are also some indications that larger funds may be better positioned to weather market downturns.
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In 2022, larger hedge funds outperformed smaller hedge funds for the first time since 2018. This is evidenced by the HFRI Fund Weighted Composite Index, which fell by 4.25%, and the HFRI Asset Weighted Composite Index, which rose by 0.97%.
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The performance of the bigger funds is a shift. In 2021, for example, the composite index rose 10.16% compared with a 7.39% gain for the asset-weighted index. In 2020, the composite index gained 11.83% versus a gain of just 2.19% for the asset-weighted index.
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Smaller investment funds can focus on their best investing ideas, rather than spreading their money thin by trying to invest a larger sum of money. They can also be nimble in their trading, entering and exiting positions more easily. However, lately larger investment funds have been better able to hire top talent. These funds are also employing sophisticated risk-management systems.
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Investors say that one of the biggest advantages of investing in larger funds is that they are more likely to focus on strategies that don't rely on rising markets to generate profits. This was an advantage in 2022, when both stocks and bonds tumbled. Instead of betting on the market's direction, some of the larger funds seek to take advantage of fleeting pricing discrepancies in stock and bond prices - trades that can work in any kind of market.
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Investors say that large funds can also employ higher levels of leverage, or borrowing. This can help them to achieve greater returns, but it also comes with greater risks.
According to Matthew Litwin, CEO of Greycourt & Co., a Pittsburgh-based investment firm, hedge fund managers are using a lot of leverage and may convincingly argue that they have a good handle on managing risk. However, he cautioned that this may not always be the case.
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Some of the largest hedge funds that saw strong gains last year by pursuing quant trading among their investment strategies included D.E. Shaw's Composite fund and Citadel's Wellington fund. D.E. Shaw's Composite fund, which manages $60 billion, rose 24.7% last year, while Citadel's Wellington fund, which manages $54.5 billion, rose 38.1%.
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Quantitative investing pioneer Renaissance Technologies LLC's well-known Medallion hedge fund rose by approximately 19% in 2022, even after sky-high investor fees amounting to 5% of assets and 36% of the fund's gains, according to sources familiar with the matter. The results of the fund, which was launched by mathematician Jim Simons and is available only to employees and select others, fell short of Medallion's average annual gains, after fees, of over 35% since 1988.
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Medallion, which is usually very successful, had two losing months in 2022, according to sources. This is in contrast to two of Renaissance's funds available to outsiders, the Renaissance Institutional Equities Fund (RIEF) and the Renaissance Institutional Diversified Alpha, which both rose by about 5% last year.
A spokesperson for the Renaissance declined to comment.
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"It's pretty surprising that Medallion had two down months in a year, considering that it only had three between 2000 and 2010," said Richard Dewey, a hedge fund and technology executive who has studied the fund's history. "Even so, it was still a great year compared to most funds, and time will tell if 2022 was an aberration or if other funds are finally catching up."
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Macro funds, which bet on global macroeconomic trends, had a good year in 2018 with bets on falling bond prices, falling stock prices, and other big market moves. According to HFR, a hedge-fund data tracker, these funds rose 9% last year.