By John Wasik
(Reuters) – In theory, last year should have been a great time to be invested in a hedge fund. With markets gobsmacked by U.S. and euro zone crises, what better way to protect your money than to hedge against the market — the nominal premise behind a hedge fund? Managers can be defensive and pick the sectors or countries that will do well when most of the market is sour. There’s a big catch here: Success depends upon whether managers guess which sector won’t decline or manage to retreat to bonds at the right time.
And hedge funds definitely got caught in the net in 2011.
Most hedgies guessed wrong last year or stayed their own doomed course. Like most actively managed investments, hedge funds fell victim to the myth that you can predict — and avoid — market gyrations on a regular basis. Except for fixed-income funds, every other category of hedge funds lost money in 2011, and all told, the sector lost about 5 percent. Depending upon which hedge fund strategy you bought into, you could’ve done even worse. Some 75 percent of funds in emerging markets lost money. India and emerging Europe were among the worst categories. Only Brazil was a winner among the developing countries.
Meanwhile, the passive S&P 500 Industrial Index gained about 2 percent on a total return basis, according to the HFN Hedge Fund Aggregate Index. You also would’ve been better off holding a portfolio of plain-Jane U.S. Treasury bonds.
Like consistently winning the Super Bowl, it’s difficult for a hedge fund manager to beat the market. Because of their fees, they’re always starting behind the eight ball. Hedge funds charge up to 20 percent for performance (as a percentage of profits), and up to 2 percent for management — dwarfing the management fees of passive stock-index funds, which charge as little as 0.07 percent for total annual management.
In a new book entitled “The Hedge Fund Mirage,” author Simon Lack said real investor profits were a negative $308 billion from 1998 to 2010. In 2008, when hedge funds should have been protecting investors’ funds, they consumed nearly all of the profits earned in previous years.