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Hedge funds resilient in front of rude Brexit awakening

Monday, June 27, 2016
Opalesque Industry Update - The leave camp won in the historic EU referendum and the decision rattled markets. The UK has voted by 51.9% to 48.1% to leave the EU. The referendum turnout was 71.8%, the highest at a UK election since 1992. The long term implications of the vote are expected to be massive. Some optimists see this as an opportunity to reshape the EU on firmer grounds. But in the short to medium term it will likely be a setback for the EU and brings political challenges for the UK (Cameron announced his resignation – expected to occur in October; Scotland could seek independence again; Sinn Fein raised the prospect of a referendum on Irish reunification). In the words of Tony Blair, the Brexit vote has “seismic consequences.”

Market reaction. Risk assets were under heavy selling pressure at the opening in Europe on June 24th, with financials down by double digits. Over the course of the day, risk assets found a floor as central banks stated they stand ready to act. Meanwhile, safe havens such as sovereign bonds in the UK and in core EMU countries moved higher, as well as precious metals and the JPYUSD cross. The outcome of the vote has triggered widespread reactions from central banks and political leaders and this may continue over the next days. Such actions have the potential to tame market uncertainty but it may be too early to chase opportunities in our view.

Hedge fund performance. The hedge fund industry tends to protect portfolios under such circumstances and initial estimates are rather comforting. CTAs stand in positive territory post-Brexit (in the +2-3% range for the day). Macro managers have the potential to take advantage of such market disruptions but the range of their performances is likely to be wide (in the -2.5% / +0.5%). Some macro managers were actually long European equities going into the vote. We estimate that L/S Equity managers are down, but their negative performance is expected to remain in a moderate range, say -1/-2%. Event-Driven tend to have a higher beta than other hedge fund strategies but are usually exposed to the US market. They could be down in the -0.5/-1.5% range. Finally, it is trickier to estimate the performance of L/S Credit, since some of their assets could face liquidity issues. Yet, several L/S Credit managers cut exposure to financials ahead of the vote.

CTAs down ahead of the Brexit referendum; up afterwards

During the week from June 14 to June 21, risk assets were up, recovering from the losses posted during the first half of June, especially as Brexit fears eased. As a result, CTAs were down and L/S Equity outperformed.

Yet, the picture has changed markedly after the results of the Brexit referendum were announced on June 24th.

CTAs are expected to be in positive territory and the remaining hedge fund strategies are expected to be in negative territory.

Should CTAs perform well, there may be renewed interest in the strategy (which has already attracted notable inflows in 2016).

What do you think?

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