New research shows that hedge funds do not appear to be the driving force behind low government bond yields, or the compression in credit spreads.

The research paper by Morgan Stanley called "What are Macro Hedge Funds doing?" examines the performance and direction of macro hedge fund strategies.

The author of the research, Morgan Stanley's Hernando Cortina CFA, says: "Market pundits are often quick to assert that hedge funds are behind every twist and turn in global asset markets. I receive an inordinate number of queries, particularly at market stress points, asking what macro funds are doing and how they are positioned."

"Unfortunately, given the funds' lack of disclosure and except for idiosyncratic trader chatter, we've had few means until now by which to more objectively analyze their positioning."

"New analysis suggests that while hedge funds may be contributing to dollar weakness and strength in commodities and global equities, they do not appear to be the driving force behind low government bond yields or the compression in credit spreads, nor heavily involved in yield curve carry trades."

"I attempt to fill the hedge fund information gap by using fund performance indices to estimate their aggregate exposure to broad asset classes. By fitting rolling regressions of aggregate fund returns on asset performance indices one can approximately infer the asset exposure. While this method is far from perfect or precise and should be used with some caution, the R2's of more than 80% over the last 18 months show that it's been able to explain much of the monthly variation in returns."

"The technique is not sensitive enough to "sniff out" exposure to correlated assets, for example US versus European stocks; however, by focusing on macro funds (MSCI Directional Trading index) we can identify asset class exposures without much single-stock noise to worry about. Last, the analysis tells us where the funds have been, not where they're going, and it may be months before the model can pick up a major asset allocation shift."

In his executive summary, Cortina notes:

* Filling the hedge fund information gap by estimating asset exposures: By fitting rolling regressions of aggregate macro fund returns on asset performance indices one can approximately infer the asset exposure. While the method is far from perfect, R2's of more than 80% can be achieved.

* Macro hedge funds currently appear net short with no significant leverage: Macro funds may be contributing to USD weakness and CRB and equity strength but they do not appear to be driving low government yields or tight credit spreads, nor heavily involved in yield curve carry trades.

* 1994-style fixed income unwind may not be the biggest risk: Estimated asset betas suggest that macro funds aren't particularly exposed to a 1994-style fixed income unwind. The bigger risks this time around may lie in a big commodity sell-off or an unexpected surge in the dollar.

* Biggest current positions: short USD, short high yield, long stocks, long CRB : We provide estimated long/short exposure to seven major asset classes over the past eight years. Current equity exposure appears the highest since the summer of 1998, while dollar shorts have begun to build again.