Commodity hedge funds face bleak future

October 6, 2013 4:22 am

Commodity hedge funds face bleak future

By Madison Marriage

The commodity hedge fund industry is likely to come under greater pressure as weak performance and waning client interest forces major funds to close. The latest victim of this trend is Clive Capital, once one of the world’s largest commodity hedge funds, which last month announced it would wind down and return $1bn to investors. This follows the closure of a number of well-known commodity funds over the past two years, including Arbalet, Bluegold, Centaurus and Fortress.In a letter to investors, Clive’s management team blamed a complete loss of faith in commodity markets for a lack of returns in the near term.

They wrote: “We perceive there to be limited suitable opportunities at this point in the economic-demand and the commodity-supply cycles to enable us to utilise our directional, long volatility approach to generate the strong returns of the past.

“It is also unclear as to when a heightened opportunity environment will return in commodities, although ultimately, it most certainly will.”

Clive is by no means alone in its suffering: the HFRI Macro Commodity index, which reflects commodity hedge fund returns, posted minus 2.56 per cent returns in 2011, minus 2.57 per cent in 2012 and is down 3.08 per cent for the year to date.

Performance has been blighted by reduced volatility and a lack of large directional moves in commodity markets. This has led to smaller price changes in oil and copper, where commodity managers traditionally put most of their capital.

These weak returns followed four boom years for commodity funds between 2007 and 2010, which saw many commodity traders swap banking for launching their own hedge fund outfits, and pull in sizeable investments.

But consistent investor outflows in response to elusive returns are threatening these managers’ business model.

Robert Duggan, a portfolio manager at SkyBridge, a US fund of hedge funds, says “performance at some of the big spinouts post-crisis has been lacklustre”.

“We are therefore starting to see more of these guys go out of business,” he says.

SkyBridge removed all exposure to discretionary commodity managers in early 2012 after deciding that there were more appealing opportunities “outside of the commodity space with better predicted outcomes”, according to Mr Duggan.

Morten Spenner, chief executive at IAM, a fund of hedge funds, adds that his company has no exposure to commodity funds as it prefers to “focus on strategies that have more sustainability”.

“Bigger trends support [equity long-short and event-driven] strategies with much more substance,” he says.

In 2011, investors poured $2.5bn into commodity hedge funds, but they have been pulling assets ever since, with $1bn withdrawn in 2012 and more than $300m in the first half of this year.

Armajaro Asset Management, one of the UK’s largest commodity-focused hedge funds, has seen its assets under management drop from a high of £2bn in 2010 to £1.5bn today.

Harry Morley, chief executive of Armajaro, says: “There has been a reduction in people’s portfolios to commodities, and we have suffered from that. Last year certainly was not our best.”

Commodity fund launches have also been in decline. In the three years to 2011 an average of 177 funds were launched per year, but in 2012 that dropped to 119, according to Preqin, the data provider.

SkyBridge’s Mr Duggan says: “The strategy has been a significant underperformer over the past few years, and it has been very difficult to get excited about any of the new launches.

“If I were launching a commodity hedge fund, I would want to make sure that I had locked up seed capital for a multiple-year period.”

Despite the problems facing the bulk of commodity funds, Alex Allen, senior portfolio manager at Sciens Alternative Investments, believes there may still be opportunities within subsections of the universe.

He says: “At the aggregate level, commodity-focused hedge funds have not done particularly well, but there are certainly exceptions.

“[Some hedge funds’] investment methodologies and holding periods are different to the managers grabbing the headlines right now, and we know several traders that have made very impressive returns over the past three years.”

Certain commodity managers specialising in energy or meat, for example, have done well, according to Mr Allen.

He adds that some of the better-performing energy fund managers have been trading in the same markets as the funds that have wound down, suggesting that performance problems are related to methodology, not markets.