Hedge funds are skittish as a traditionally quiet and low volume market looms this summer.
Fund managers are scratching their heads to dream up ways and means to bolster returns over this period, and at the back of their minds is last year’s August stock shakeout.
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The key problem, and no prizes for guessing, is the European debt crisis that appears to be interminably in a no-man’s land as far as a lasting solution is concerned. Markets careen between optimism and despondency, depending on whom in Europe has made the last statement on the crisis.
On the other side of the pond, the U.S. elections, fiscal deficit, and debt ceiling issues are keeping hedge funds on tenterhooks.
Given these factors, hedge funds are loath to fix on a risk-reward ratio, which may be turned on its head by any unexpected development.
The focus, not surprisingly in such a scenario, turns to capital preservation.
Says Pedro de Noronha, managing partner at Noster Capital, in a report by Reuters: “The risk is that we may underperform a rising, illiquid summer market. But the reward for taking a lot of risk in the months ahead is just not there. We prefer focusing on capital preservation and running a tight ship until we can foresee better fundamentals.”
Historic data also signals caution. Last year, hedge funds lost 7.9 percent on average, during the period of June to September, while long-short funds lost 12.1 percent, according to HFR.
Though last month’s summit deal on Europe stocks put on 5 percent in anticipation of a lasting solution, analysts are still skeptical of the devils in the detail. Much-publicised summit decisions fall flat when the leaders reach home countries, and individual realities come to the fore-front. For example, the EU’s bailout schemes and budget pacts need to be ratified within Germany’s internal system, and this could still be a couple of months away.
Meanwhile, clarity is still required on the scheme to recapitalize banks directly through the European Stability Mechanism.
Given these factors, hedge fund managers are understandably wary of making large bets.
The silver lining, however, according to one manager, is that corporates are in pretty good shape, and this could give the fledgling rally some legs. He mourns, however, that it is the sovereigns that are the problem.