Hedge Fund Returns Fall Behind S&P 500 Even After Increase in Equity Bets

By Inyoung Hwang – Feb 24, 2012 2:26 PM ET

A 10 percentage point increase in bets by hedge funds that equities will gain wasn’t enough to keep their short sales from limiting returns to half the Standard & Poor’s 500 Index’s performance in 2012.

The average equity hedge fund returned 3 percent this year through Feb. 10, compared with 7 percent for the S&P 500, Goldman Sachs Group Inc. said in a report dated Feb. 21. A Goldman Sachs index of the 50 most-common stock investments at hedge funds gained 10 percent.

The funds lagged behind even after boosting their net long exposure, a measure of how much they’re investing in bets that stocks will rise, to 46 percent in the fourth quarter from 36 percent at the end of September. The figure was down from 50 percent in December 2010.

The outperformance of the Goldman Sachs Hedge Fund VIP Basket suggests “that ‘hedges’ and modest net exposure have created a drag on performance rather than poor stock selection,” wrote David Kostin, a New York-based strategist at Goldman Sachs, in the Feb. 21 note. “Despite finding success with their top picks, lack of net exposure to the cyclical rally has caused hedge funds to lag both the S&P 500 and the average large-cap core mutual fund so far in 2012.”

Improved data on U.S. jobs, manufacturing and housing have helped S&P 500 industries linked to the economy do best in 2012, led by technology and financial companies. Unprecedented market volatility and concern Europe’s sovereign debt crisis would trigger a global recession boosted the appeal of defensive stocks last year, causing utility and consumer staples companies to post the highest returns.

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