Stretched valuations and the resulting pullback in equities have prompted more interest in long/short fund strategies that can provide some protection against market declines and wild swings, hedge fund and asset managers say.
The S&P 500 index is down nearly 10% from its Sept. 2 peak, and the burst of selling has prompted some managers to seek more protective strategies. The recent selling followed a run-up in stocks, which regained all their coronavirus-induced losses after unprecedented support from the U.S. Federal Reserve.
Long-short equity hedge funds, which bet on stock prices rising and falling, lost an average of 5.75% in March when markets plunged. But they went on to gain an average of 13.67% in the first eight months of 2020 and were the best-performing strategy in August, according to data from investment bank Nomura.
"We see great demand for strategies that protect from great volatility," Philippe Ferreira at fund of hedge fund Lyxor Asset Management told Reuters.
Part of the protection long-short funds offer is by "shorting" - borrowing a stock or security from an institutional investor, then selling it back when the price falls, pocketing the difference.
Fund research firm Preqin said that hedge fund equity strategies, which includes long/short strategies, accounted for $929 billion of assets under management at the end of June, of $3.6 trillion in total global hedge fund assets.
"We are seeing flows into strategies that bring some form of protection," said Ferreira. "We are not seeing flows into strategies that are highly correlated to the market environment.
"There are many long-short that have a long bias and they are left by the sidelines at the moment. Long-short equity that is less correlated is in high demand."
Data from industry tracker eVestment shows searches for long-short equity hedge funds on their database rose to a seven-month high in August, making up 17% of all hedge fund searches, compared with 11.1% in July.
Rob Christian, co-head of research and investment management at hedge fund solutions group K2 Advisors, part of Franklin Templeton Investments, said it's a "great time" for long-short investing and that clients had been looking to get more defensive.
"Broadly, equity investors are trying to reduce their equity risk using long-short managers," Christian said.
For their part, hedge funds running long-short funds say they are seeing renewed interest in the strategy.
"My view overall is that long-short equity generally fell out of fashion a few years ago and there is just starting to be a little bit more interest, from our experience," said Nigel Gliksten, partner at Toscafund Asset Management.
Gliksten said Toscafund, which runs a $400 million long-short fund, was receiving more interested calls from investors since the pandemic hit.
"We have seen a big increase in inbound enquiries from family offices, institutional investors and banks, to layer in long volatility risk-reducing positions that would effectively create a long-short trade," said Matt Rowe, chief investment officer at asset-management firm Headwaters Volatility.
While many of the hedge funds said investors were at the early stage of their enquiries, some funds were already seeing inflows.
BlueBay's credit long-short fund almost doubled, to $219 million in July from $126 million in October 2019, with the increase due to investor inflows as well as performance, confirmed a spokesman.
The U.S.-based long-short credit fund Aristeia International rose to $1.3 billion in July from $1.242 billion in December, according to data compiled by HSBC and seen by Reuters.
In long-short equity, Lee Ainslie's Maverick Fund rose to $1.5 billion in July, from $1.4 billion in November 2019, showed the data.
Aristeia Capital and Maverick Capital did not respond to requests for comment on whether the asset growth was due to more investors.-Reuters
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