Wealth managers at Citi Private Bank are telling their clients to stay neutral in their exposure to hedge funds at the moment, whether the strategy be event driven, equity long/short or macro. The main reason is that capital markets are still stressed and many hedge funds still need to deleverage.

The firm points out, however, that hedge funds had a good news-bad news kind of year in 2008. Based on the HFRX Global Hedge Fund Index, it was the worst performance on record. The index lost 23.3 percent. Its next worst performance was 2002 — and that was only a 1.5 percent decline.

Losses were widespread across all kinds of strategies. Only merger arbitrage and systematic macro gained anything. 

The good news, so to speak, was that that this dreadful performance was better than what you would have got from just plain equities. The S&P 500, for example, lost 38.5 percent, meaning that the hedge fund index outperformed by a whopping 15.2 percentage points.

It was that kind of year.

Alain Grisay, the softly spoken CEO of F&C Investments, was in a wry humour at F&C’s annual press seminar for European journalists on Thursday.

Fresh from his bout with the UK’s Treasury Select Committee on the causes of the banking crisis, and enjoying a respectable set of fourth quarter figures, Grisay is in the rare position of having come through the storm with his house intact. “We have just gone through an unrequested market stress test that confirms our model works,” he said. “We were able to report resilient results for the year and took the market by surprise.”

His company has been viewed as boring in the past by market commentators, but Grisay observed drily that in some quarters F&C is now viewed as a “must have”.

With majority shareholder Friends Provident confirming that it has given up trying to sell F&C, Grisay said he saw a lot more value to be created in building up the shop rather than taking it to pieces.

He was also relatively sanguine about the fall out from the credit crunch, saying that changes in the asset management industry would be deep and long-lasting. “Half the hedge fund industry will be shut down by the end of 2009 due to a combination of redemptions and write downs,” he said, sounding far from worried. “The industry is melting like snow in the sun.”

But he saved his best jab for the UK’s hapless legislature, still struggling to shut the stable door long after the horse has run off and joined the circus. Having survived the Treasury Select Committee’s dissection, Grisay expressed his surprise at the Committee’s approach.

“They are able to produce these typed conclusions from the discussions you have with them, that they have typed up the night before. It’s really very efficient!”

Merrill Lynch’s monthly poll of fund managers around the world has a bit of a surprise in the small print. More investors now reckon the Japanese yen is overvalued than see it as undervalued. This is the first time this has been the case since Merrill began asking the question, said by staff to be about eight years ago.

It clearly reflects a 13 percent dive in dollar/yen this year and a 24 percent plunge in euro/yen. But does the new view of value suggest that the unwinding of the carry trade is over? Another question from the Merrill poll shows hedge fund deleveraging levelling off.

How bad will hedge funds’ year-end performance figures look?

According to Credit Suisse/Tremont, funds fell 6.30 percent in October after a 6.55 percent drop in September, taking losses for the first ten months to 15.54 percent.

Seven strategies are now nursing double-digit losses, with only two — managed futures and dedicated short bias — in positive territory.

Even global macro, which bets on the likes of global equity markets, world currencies, sovereign debt and commodities, is now back in the red. These funds are down 7.10 percent after substantial losses in September and October.

Many investors who have not already pulled out their money will be keenly watching year-end figures as they review their portfolios.

The last time hedge funds lost money over a calendar year, according to Hedge Fund Research, was in 2002 when they fell 1.45 percent.

The questions for hedge funds are how bad will it look in 2008, and will it be any better in 2009?

So star hedge fund manager Greg Coffey has opted to join established firm Moore Capital.

In April, when high-performing, high-earning Coffey resigned from GLG, the market was awash with rumours that he wanted to start up his own firm, pulling in billions from investors.

However, times have changed in the hedge fund industry.

The average fund is down nearly 20 percent so far this year, according to Hedge Fund Research’s HFRX index, while emerging markets funds have taken a particular battering as markets such as Russia and China have fallen.

Fund of funds managers say that top funds that were once able to turn investors away are now open again as investors across the industry withdraw their assets.

So perhaps for Coffey, who forfeited a bonus reportedly worth around $250 million when he resigned from GLG, a start-up has just become too risky for now.

If the shrinkage of the hedge fund industry is giving someone as well-regarded as Coffey reason to think again, then for those without a strong track record times could be very tough indeed.

We’re hearing a lot about a major shake-out in the hedge fund industry.

George Soros is predicting two thirds of funds could go to the wall as the credit crisis fallout settles on the industry and Q3 data from HFR has shown the more immediate impact as assets shrank by 11 percent in the period.

Now the Aima hedge fund industry association calls in with some sad news. Cocktail dresses are being slung back in the closet as the trade body’s annual reception in London is put on ice.

The Grosvenor House Hotel bash was to take place on Tuesday next week, bringing together the press, hedge fund managers and Aima committee members in the kind of informal setting that could have offered an intriguing glimpse of the tumultuous state of the industry. A spokeswoman tells us though that “things are just too hectic… they can’t afford to take a night off.”

 The Park Lane cocktail evening is being rescheduled for January, but the spokeswoman declines to say if Aima is predicting calmer waters by then – or just hoping a heavily downsized guest list of hedgies will help keep the costs down.

– by Joel Dimmock

Nobody knows quite what the landscape for financial services will be after the mayhem of the last three weeks. There is much talk of the investment banking model being dead in the water and swingeing regulation aimed at firmly bolting the door of a horseless stable, but few are ready to hazard at the details.

One aspect on which we have seen almost universal agreement, however, is that investors have cottoned onto the immense risk of bankrolling investments they don’t quite understand. The trend for increasing pension fund investments in alternative strategies starts to look like a busted flush, and you have to question whether demand for the UK’s planned retail funds of hedge funds will sustain the new industry.

Schroders CIO Alan Brown told us this week: “People will be taking a long hard look at complex financial products.”

“If you see a creative investment banker head towards you, you are likely to develop short arms and deep pockets.”

It’s clearly an issue which encourages investors towards the poetic; Colin Melvin, CEO at the equity ownership service at Hermes told a sustainable investment briefing on Wednesday: “What we’ve seen perhaps is a multiplicity or complexity of investment products and services which has grown up in order to maintain unusual profitability of the industry. As you shine a light on it, it will simper off into the dark again.”

And Robert Talbut, CIO of Royal London Asset Management lends further weight to the argument.

He told us: “We see a return to simplicity in products - complexity is out. The absolute return-type product is significantly under threat - clients will be wary of the opacity and prime broking is getting much harder to come by.”

Some industry players talk about a return to favour for old-fashioned, long-only balanced funds, with some interest for high-grade investment bonds, or perhaps global equities. The trouble at the moment is that many investors see few viable bolt holes for their cash. Just ask Andrew Chapman, pensions manager at the 2 billion pound John Lewis pension scheme.

“There is nowhere to hide,” he said. “This is a whole new paradigm and there are too many uncertainties out there - you make one move and you might be worse off than what you are doing now.”

 – Joel Dimmock, Claire Milhench, Raji Menon

It was not so long ago that hedge funds and commodities were the two red hot areas to invest in.

The credit crisis has shown that investor interest can quickly cool.

Many hedge funds betting on a so-called “super-cycle” have been caught out by a sharp pullback in commodities after a five-year bull market and are now facing the task of soothing anxious investors.

One of those to have suffered - hedge fund firm RAB Capital - is trying to strike a bargain with investors in its flagship Special Situations strategy, which has plunged 48 percent year-to-date after some bad bets on mining stocks plus a high-profile mistake at Northern Rock.

With investors able to pull out money every three months after giving notice, and with much of its assets in small-caps that will prove much harder to sell in down markets, RAB is in a potentially tricky situation.

Its proposition to investors is for them to tie up their money for three more years, giving it some breathing space and the fund’s holdings time to recover.

In return, RAB will halve its management fee - once a high figure that hedge fund industry investors were only too keen to pay - to 1 percent.

If this doesn’t work, RAB will liquidate the once high-flying fund and give investors their money back.

Only last week Ospraie Management said it would close its flagship hedge fund after it plunged 27 percent in August and said investors would have to wait up to three years to get back some of their cash - not exactly the type of statement that will draw new investors to the industry quickly.

The heat is on for hedge funds with commodities bets.

Earlier this week Ospraie Management told investors it is shutting its flagship fund after it plunged 27 percent in August. The fund’s energy and commodities stock positions fell as investors worried if a global economic slowdown will mean less demand for resources.

And now RAB Capital’s Philip Richards is giving up the CEO role to focus on his funds after an awful period of performance for his once high-flying Special Situations fund.

Losses on small-cap mining stocks, as well as its high-profile error in buying into troubled bank Northern Rock, meant its listed feeder fund fell 38.1 percent from the start of the year to Aug. 21.

One of the potential danger areas for hedge funds in this area is liquidity - how quickly they can dump stocks when investors decide enough is enough and want to pull their cash out.

The problem is that during the commodities boom of the last five years the flood of investor money has encouraged some funds to invest in less crowded areas such as smaller companies. These are easy to trade in a bull market but buyers can quickly disappear in a downturn.

Ospraie has told investors it will give investors their money back in stages, with the least liquid 20 percent taking up to three years to be returned.

Given the size of recent losses in this area, the illiquidity of some hedge funds’ positions and investors’ increasing nervousness as hedge funds continue to struggle, there are likely to be more such closures.

The price of oil was falling sharply on Tuesday after traders stopped worrying about former Hurricane Gustav’s winds, but by at least one calculation it remains very pricey - that is, its link to the price of gold.Some market watchers argue that there is a long-term relationship between the prices of the two commodities. Roughly speaking, this theory would have 10 barrels of crude oil costing the same as one ounce of gold.  Back in March, for example, gold hit a record of $1,030 an ounce and a barrel of oil brought around $105.

By July, however, gold had fallen and oil had risen to the extent that the ratio was not 10 to 1, but 5.9 to1. Some argued at the time that hedge funds noticed this and began to short crude. With the latest tumble, oil is about 27 percent below its high. But against gold, the ratio is still at 7.4 to 1.

The problem is that gold won’t stop falling either, which rather undermines the ratio theory. Perhaps it is all just hooey. If it is not, however, oil would have to dive another 25 percent to reach equilibrium of $79 a barrel against today’s gold price.