According to the BIC, the average South African hedge fund posted credible gains of 15.67% for the 12 month period to 31 December 2009. While the JSE All Share Index (ALSI) posted a 32.13% gain for the same period, it did so with degree of volatility (measured using annualised standard deviation) roughly ten times greater than that of hedge funds.

Another indication of the significantly better risk/return relationship offered by hedge funds in 2009 is provided by the contrasting Sharpe ratio measurements of the two asset classes. The Sharpe ratio is a measure of the excess return per unit of risk in an investment asset or a trading strategy. It is used to characterize how well the return of an asset compensates the investor for the risk taken.

During 2009, the BIC had a Sharpe ratio of 3.2% - three times that of the ALSI’s at 1.05%.

According to Kevin Ewer, portfolio manager at Blue Ink Investments, it is over a three-year period that the outperformance of hedge funds is clearly demonstrated, both on a nominal and a risk adjusted basis. During this period, the BIC increased 11.16% on annualized basis, while the ALSI delivered an annualized return of 6.53%. Cash delivered 10.05%.

During this period, local hedge funds recorded a volatility measurement of just 3.88%, compared with 20.94% for the ALSI.

Ewer says the figures demonstrate that hedge funds not only provide a strong return in the long term, but also provide more stability for investors. “The returns on the JSE were exceptionally strong in 2009, but investors endured a rollercoaster ride in the early part of the year.”

He says volatility is likely to be high in 2010 and hedge funds are well positioned to produce the best risk-adjusted performance over the year as they have the ability to offer good upside participation with low downside participation, helping to shield investors from the worst of market downturns.

“We believe that conditions are favourable for hedge funds to outperform other asset classes in 2010. Cash rates are likely to remain low and the massive issuance in the bond market is a major headwind for that asset class. From a long only side in equities, the easy money has been made.

“The equity market is likely to see increased volatility and to differentiate between quality companies and companies that have simply rallied despite underlying problems. This provides opportunities for hedge fund managers that are good stock pickers, with both the long and short portions of the fund being potential profit centres. Hedge fund managers also have more tools at their disposal to handle more volatile markets than long only funds. We are confident that we will be able to meet our target returns in 2010.”