Analysts at Ray Dalio’s Bridegwater Associates made some interesting observations on the hedge funds’ performance through the initial few months of 2012. We saw a rough year for hedge funds, in general, in 2011. The index was down 2.6 percent in the last year, but recovered with +4 percent through Q1 2012.  The increase in returns is prone to volatility, as hedge funds invest most of their assets in risk premiums and equities. Bridgewater uses its own metrics to judge performance. The beta is replicated, so that it is reflected with 94 percent correlation in the hedge fund return index.

Bridgewater Associates delivering alpha

Once the beta aggregate is subtracted, the true returns can be estimated. Bridgewater observes that since 1994, 77 percent of the returns have come from beta and the rest is driven from alpha. The table below shows the hedge fund returns with respect to the alpha beta metrics.

Bridgewater’s research sees three factors driving the asset class returns, discounted growth, discounted inflation, and value of cash. Again, by using the beta aggregates, an estimation of the level of influence these factors have, can be made. The charts below illustrate this concept.

The report notes that in the past five years, post crisis, hedge funds have not generated alpha. In these years hedge funds have only been minimally successful in timing the stock market, which value investors know is close to impossible.

Similar trends of flat returns were observed across currencies, stocks, bonds, and commodities in the past years, except in 2008.

Bridgewater Associates notes that the market has lagged due to low returns in equities and volatility, and this has affected the beta metric in hedge fund returns. While bad stock market timing and sketchy economy have contributed to a flat alpha since 2008. Thus, the only upswings seen in the hedge fund market, come from risk premiums and discounted economic growth