When it comes to investments, the man on the street tends to come across the usual products we have all heard about - stocks, ETFs, and unit trusts. But most have not heard about Hedge Funds or know what they do. Because Hedge Funds are private and exclusive investments open only to the rich and institutions. They run a whole range of investment strategies typically not found in traditional funds.
Let's take a quick look at the "mysterious" world of hedge funds. This is where you will find stronger long-term performance with lower risk. Something the ordinary man has no access to even today. But the good news is you can now, as a retail investor, also build a portfolio running on hedge fund strategies through iFAST Global Markets. However, before you get overly excited, let’s first take a look at what’s so special about Hedge Funds. How do they fare against the stock markets?
1. Hedge funds have delivered the most returns since 1990
Source: Hedge Fund Research, MSCI. Data as of 31-03-2021.
*HFRI Fund Weighted Composite Index, MSCI World, and MSCI Singapore Indices used. All data presented are in USD.
Despite trailing the stock market after 2009, hedge funds still take the lead in making the most returns since 1990. It made more than double what the global stock market did and 3 times what the Singapore stock market delivered. If you invested $1,000 in a basket of hedge funds at the start of 1990, it would be worth more than $17,000 today.
2. Hedge funds use significantly less risk
Surprised? Aren't we always told, "to get a higher return, you need higher risk"?
To the layman, yes. But not to professionals who know how to manage their risk well. In financial modeling, there are various ways to measure risk. One of the most common risk metrics used by professionals is volatility. Volatility is the random up and down movement in price that brings uncertainty to your target investment profit. It gives you an indication of how much your return may deviate from your target. The larger the volatility is, the higher the uncertainty and the larger the potential deviation. Why is this even important? Because you will not want to miss your target by a mile when the time to sell comes.
And how do hedge funds fare against the rest in terms of risk?
Source: Hedge Fund Research, MSCI. Data as of 31-03-2021.
HFRI Fund Weighted Composite Index, MSCI World, and MSCI Singapore Indices used in computing the metrics. All data presented are in USD.
Looking at the table, we can see clearly that hedge funds used less than half the risk of the global stock market and only a quarter of the Singapore stock market. That means you can worry less about potential shortfalls.
3. Hedge funds are more efficient at making money
Hedge funds squeezed out more returns for every unit of risk they took. That shows they are more efficient at making money. To put things in perspective, we can compute a simple metric called Sharpe Ratio to measure this efficiency. To get the Sharpe Ratio, we just divide the annual return (CAGR) by the risk.
Source: Hedge Fund Research, MSCI. Data as of 31032021.
HFRI Fund Weighted Composite Index, MSCI World and MSCI Singapore Indices used in computing the metrics. All data presented are in USD.
* Risk-free rate used is 0
Hedge funds make on average 1.41% return for every 1% risk taken. That is almost 3x better than the global stock market and more than 5x higher than the Singapore stock market.
4. Hedge funds are better at navigating bear markets
Bear markets are nightmares for many investors. Some may think it's the best opportunity to load up on even more stocks. But be aware there are times when markets lose as much as 80% and take decades to recover. The US Great Depression in 1929 and Japan's Lost Decade starting in 1989 are examples. In fact, Japan is still in the midst of recovery, more than 30 years on.
So how do hedge funds perform during bear markets?
Source: Hedge Fund Research, MSCI. Data as of 31032021.
HFRI Fund Weighted Composite Index, MSCI World, and MSCI Singapore Indices used in computing the metrics.
They outperformed both stock markets in all the 4 bear markets that happened from 1990 - 2021. In particular, they produced a positive return during the Kuwait invasion episode and lost significantly less than the markets for the rest.
Are you able to see now how hedge fund strategies can be a valuable alternative way to invest?