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Hedge funds up slightly in Jan, says Morningstar

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Hedge funds enjoyed a slightly positive January, but trailed most stock-market indexes, according to figures released by Morningstar. The Morningstar 1000 Hedge Fund Index and the currency hedged Morningstar MSCI Hedge Fund Index rose 0.4% and 0.2%, respectively. Meanwhile, the S&P 500 and MSCI World Indexes were both up more than 2%.

"Many hedge funds posted strong performance in January, but losses in global-macro and trend-following strategies overshadowed any overall gains in the industry," says Nadia Papagiannis, alternative investment strategist for Morningstar.

Funds in Morningstar’s Global Trend Hedge Fund Index, which trade futures primarily according to momentum strategies, suffered losses in multiple asset classes, as contracts tied to equities, bonds, currencies, and commodities saw mid-month price reversals. The Global Trend Hedge Fund Index declined 1.0% in January. The Morningstar Global Non-trend Hedge Fund Index dropped ever further, 2.4% in January, as funds betting on gold and betting against the Euro or European stocks slipped.

European equities rallied most of the month. Greece and Portugal successfully issued new debt as European leaders showed stronger resolve to support the Euro currency union. Hedge funds focused on European stocks stayed significantly hedged, however, missing most of the rally. The Morningstar Europe Equity Hedge Fund Index rose a modest 1.0% against the MSCI Europe Index’s 3.9% climb.

US stocks experienced the best January in several years, but losses in the second half of the month due to disappointing earnings and political turmoil in Egypt detracted from returns. The Morningstar US Equity
Hedge Fund Index increased 1.4% against the S&P 500 Index’s 2.4% rise. Smaller-capitalization and emerging-markets stocks reacted even more strongly to the bad news, after a significant run-up in late 2010 and early 2011. The Morningstar US Small Cap Equity Hedge Fund Index rose just 0.8% in January, while the Morningstar Emerging Markets Equity Hedge Fund Index declined 0.1%.

Political risk and inflation fears battered emerging-market debt, but riskier corporate and convertible debt in developed markets outperformed. Hedge funds concentrating in these markets as well as those that short longer-term Treasuries, profited. The Morningstar Convertible Arbitrage and Debt Arbitrage Hedge Fund Indexes rose 1.6% and 1.4%, respectively.

Funds in Morningstar’s debt-arbitrage, global-debt, and global-trend categories had significant inflows in December 2010, although the database as a whole experienced net outflows of USD628 million. For 2010, investors added USD1.9 billion to hedge funds in Morningstar’s database. The bulk of those assets went to global non-trend funds, while funds in the distressed securities, multi-strategy, global debt, and global equity categories leaked the most assets.

Multi-strategy funds significantly outpaced hedge funds of funds in January. The Morningstar Multi-Strategy Hedge Fund Index rose 1.5% while the Morningstar Hedge Fund of Funds Index increased only 0.1%. Hedge funds of funds in Morningstar’s database saw USD13.0 billion in outflows in 2010.

January returns for the Morningstar Hedge Fund Indexes and December asset flows are based on funds that reported as of February 18, 2011. January returns for the Morningstar MSCI Hedge Fund Indexes are based on funds that reported as of February 15, 2011. Hedge fund investors, managers, consultants, and advisors can access additional information through the Morningstar® Alternative Investment CenterSM, formerly Morningstar AltvestSM, the company’s research platform designed specifically for hedge funds, or Morningstar DirectSM, the company’s global research platform for institutions.

Morningstar has approximately 11,000 hedge funds and funds of hedge funds in its database. The Morningstar 1000 Hedge Fund Index, a global, broadly representative benchmark for hedge fund performance, has return history from January 2003. The index comprises the top 90% of eligible assets in Morningstar’s hedge fund database. For the purposes of the index, Morningstar counts funds with shared portfolios as a single hedge fund; funds of hedge funds are excluded from consideration. The index is updated daily for the previous month-end, rebalanced monthly, and reconstituted semi-annually. In addition, Morningstar has 17 category indexes and four broad category indexes based on Morningstar’s strategy-specific classification system for hedge funds. Morningstar’s hedge fund indexes are not investable.

In addition to calculating the Morningstar Hedge Fund Indexes, Morningstar also calculates hedge fund indexes by applying the MSCI Hedge Fund Index Methodology and Hedge Fund Classification Standard to Morningstar’s hedge fund database. These indexes demonstrate the performance of hedge funds to
investors who have hedged their currency exposure back into US dollars. The MSCI Hedge Fund Index Methodology classifies hedge funds by investment process, geography, and asset class.

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