Hedge funds are experiencing a renaissance due to greater availability and the uncertain outlook for equities.

These factors, and the strong performance of Amplify Investment Partners’ hedge funds, have enabled it to grow hedge fund assets from R1.4bn to R4.5bn in almost four years, head of investor relations for Amplify, Emma Pretorius says.

“We strongly believe you need to blend hedge funds, as a lot of the risks associated with hedge funds can be mitigated by blending. Our funds range from cautious to aggressive, from long-short equity to fixed income and multi asset, enabling us to provide investors with a one-stop shop,” she says. 

The funds all have different strategies, play on different parts of the yield curve and have low correlation to each other, which makes them ideal for blending.

A cautious hedge fund blend – including the Amplify SCI* Real Income Retail Hedge Fund, Amplify SCI* Income Plus Retail Hedge Fund, Amplify SCI* Absolute Income Retail Hedge Fund, Amplify SCI* Enhanced Equity Retail Hedge Fund and the Amplify SCI* Diversified Income Retail Hedge Fund, equally weighted, has significantly outperformed shares and bonds. To illustrate, taking a R100 initial investment at the start of 2016, the Amplify blend would be valued at R225.50 against the JSE All Share Index’s (ALSI) R181.1 and All Bond Index’s (ALBI) R171.

The cautious range includes four fixed income funds as well as a market neutral fund with low correlation to each other as well as market indices such as the ALSI and ALBI and various Association for Savings and Investment South Africa (ASISA) categories, which would make this blend a perfect complement to a traditional portfolio. Pretorius says the cautious blend presents less risk than the ASISA MA Low Equity category, but basically double the returns. It has comfortably outperformed CPI plus 3% and plus 4% and has experienced significantly less drawdowns than low and medium equity category averages.

Amplify’s more aggressive balanced hedge fund blend, including the Amplify SCI* Diversified Income Retail Hedge Fund, Amplify SCI* Income Plus Retail Hedge Fund, Amplify SCI* Absolute Income Retail Hedge Fund and Amplify SCI* Managed Equity Retail Hedge Fund has managed to outperform CPI plus 5% and plus 6%, which have proven to be challenging benchmarks in more recent times.

Independent managers of Amplify’s hedge funds employ different strategies to deliver on their mandates, some of which were highlighted at Amplify’s latest webinar.

All Weather Capital, which manages the Amplify SCI* Enhanced Equity Retail Hedge Fund, is style agnostic and bases investment decisions on its assessment of intrinsic value and the margin of safety in that investment, portfolio manager Chris Reddy says.

The fund is a market neutral hedge fund with the aim of delivering long term capital appreciation and return above cash net of fees. The fund aims to be uncorrelated to the market and offer downside protection and lower volatility than absolute return funds as it can also short an index or shares. All Weather’s market neutral fund, which the Amplify SCI* Enhanced Equity Retail Hedge Fund mirrors, has delivered a return of 18% per annum over the last five years against cash of 6% and the ALSI’s 8% to 9%. In the past 12 months, which included nine negative months on the ALSI, the fund has been down only two of those months, and the maximum was 1.7%.

Market neutral funds protect capital and have less net exposure to the overall market. The Amplify SCI* Enhanced Equity Retail Hedge Fund’s managers apply a range of strategies including paired trades such as being positive one retail share and negative another to be neutral the retail sector. They also use index shorts to reduce overall market exposure and make use of derivatives. Various income enhancement strategies aim to eke out returns and beat the benchmark.

As the fund’s key mandate is to protect capital, it limits exposure to small and mid-cap shares which are fairly illiquid, maintains discipline in banking profits and also limits risk via index shorts to reduce the net market exposure.

Amplify SCI* Managed Equity Retail Hedge Fund, an aggressive long short hedge fund, is not market neutral. Fund manager Jonathan du Toit, who heads OysterCatcher Investments, describes it as “an equity fund with a hedge fund on top of it”. The fund aims to use equity returns as a base with a hedge fund with added alpha generation. Du Toit says the market (ALSI) has returned 10.5% over last 12 years, beating bonds (7.8%) and cash (6%), while the fund has delivered the ALSI plus 10% a year. “We think the best way to manage clients’ money is start with an equity building block and give you equity plus”.

The fund uses special opportunities such as corporate actions, and mitigates risk by having many independent bets, limiting position sizes as well as various other strategies.

While the fund has more downside risk and volatility than market neutral funds, it will have more upside in the longer term, Du Toit says.

Erik Nel, chief investment officer at Terebinth Capital and manager of the Amplify SCI* Diversified Income Retail Hedge Fund as well as the Amplify SCI* Strategic Income Fund, says both funds operate in the broader multi asset space and follow a similar approach in terms of managing the funds, although hedge funds, due to the risk inherent in managing leveraged cash and short positions, require “a lot more focus into understanding the up and downside dynamics”.

“The important thing in fixed income, given that it is driven so much by macro and economic factors over the short and medium term, is to have a view on where you are in the world and in the cycle, and we take that approach.” This focus allows the fund’s managers to measure what’s in the price, and what the risks are.

The fund focuses on investing in good quality assets that are liquid, highly rated and safe, and managing positions actively so they don’t generate volatility in the portfolio. The fund maintains a beta position and waits for the market to get expensive or cheap, depending on the current view. “Once you get to a point of the maximum of good or bad news priced in, you can build a position.”

“Over the long term, fixed income is more a risk tool than a return tool – if you consider how asset allocation happens, it has to be a counterbalance to more volatile growth assets, so it is there to reduce volatility.”  

Fixed income doesn’t have the extreme volatility of growth assets, but if you can trim the downside and increase the upside incrementally, there is an opportunity to build over time, Nel says. “Sometimes you don’t see those home runs, just take those singles and it keeps on ticking over.”

Hedge Fund Disclaimer

* Sanlam Collective Investments