Trend-Following Hedge Funds Face Volatility Amid Market Fluctuations

Trend-following hedge funds experienced significant losses in August due to bets on the New Zealand dollar and Japanese stocks and bonds, as global markets faced extreme volatility. Notable losses came from 10-year Japanese government bonds and other assets. Despite this, some funds managed positive short-term results.

Trend-following hedge funds experienced a challenging August, incurring substantial losses from bets on the New Zealand dollar and Japanese stocks and bonds amidst significant market volatility, according to data from Societe Generale viewed by Reuters on Tuesday. These funds remained invested in Japanese government debt, U.S. equities, and the Australian and New Zealand dollars as August concluded.

The data revealed that certain asset classes favored by these algorithm-driven trend funds have been loss-making this year. However, the specific nature of their positions—whether bullish or bearish—at the time of the losses remains unclear.

August's most detrimental bets for hedge funds included 10-year Japanese government bonds, the Nikkei 225, the New Zealand dollar, and German and Italian stock markets, according to the SocGen report. Conversely, the Mexican peso, British pound, euro, blended gasoline, and U.S. 2-year Treasuries, while overall losers for the year, yielded positive results in August.

The abrupt reversal in equity and forex trades last month was driven by the unwinding of substantial carry trades, where investors borrowed low-yield currencies, such as the Japanese yen, to purchase higher-yield assets. This generated a feedback loop of falling equity prices, heightened volatility, and increased hedge fund selling. The market disruption was short-lived, with global stocks reaching new highs later in the month.

This period proved challenging for some trend-followers, with double-digit declines over the month, especially for Eclipse Capital Management, Drury Capital, and SEB Asset Management funds, all of which reported losses exceeding 10%. Despite these setbacks, Drury Capital Management and SEB Asset Management had positive year-to-date performances of 3.45% and 0.57%, respectively, as of the end of August.

Conversely, hedge funds focusing on shorter-term trades saw the best results for August. These included funds from Revolution Capital Management, Altiq, and Crabel Capital Management, which posted positive performances between 3.8% and 4.5%, per SocGen data. Altiq declined to comment, and the other funds did not immediately respond to requests for comment.

(With inputs from agencies.)