Mia Lamar of the WSJ reports, Hedge Funds Added Small Gains in Jan­u­ary:

Hedge-fund per­for­mance perked up in Jan­u­ary, although con­tin­ued to lag the major stock indexes, accord­ing to indus­try adviser Hen­nessee Group.

Hennessee's hedge fund index rose 2.5% for the month of Jan­u­ary, less than the Stan­dard & Poor's 500 and Dow Jones Indus­trial Aver­age, which posted gains of 4.4% and 3.4%, respec­tively. The Nas­daq Com­pos­ite Index climbed 8% last month.

Still, the advance­ment in Jan­u­ary comes after a dis­mal 2011 for the hedge indus­try, which has been bat­tered by swiftly chang­ing sen­ti­ment on Europe's sovereign-debt cri­sis and other macro con­cerns around the world. Hennessee's hedge fund Index fell 4.27% in 2011, mark­ing the worst year for hedge funds since 2008.

"It is encour­ag­ing to see a respectable gain even with man­agers con­ser­v­a­tively posi­tioned," said Lee Hen­nessee, man­ag­ing prin­ci­pal of Hen­nessee Group.

Equity long/short strate­gies were among the best-performing strate­gies last month, as the Hen­nessee Long/Short Equity Index advanced 2.47%. Stocks pushed higher in Jan­u­ary, led by tech­nol­ogy and finan­cials, as U.S. eco­nomic data con­tin­ued to show signs of improvement.

It's hardly sur­pris­ing to see Equity long/short funds posted the best returns as stock mar­kets rock­eted up in Jan­u­ary. In other words, once more, it's all about beta stupid!

There is how­ever more good news for hed­gies. Har­riet Agnew of Finan­cial news reports, Long/short hedge funds to gain from cor­re­la­tion decline:

Stock cor­re­la­tion within sec­tors has dropped sig­nif­i­cantly this year as mar­kets have ral­lied, pro­vid­ing a boon for long/short equi­ties man­agers who buy and sell com­pa­nies based on fun­da­men­tal analy­sis of their indi­vid­ual mer­its.

Giles Wor­thing­ton, a port­fo­lio man­ager at River­Crest Cap­i­tal, said: "Cor­re­la­tions are falling with quite a pow­er­ful force and diver­sity in stock returns is ris­ing. This is good news for stock-pickers as once again investors are con­sid­er­ing the dif­fer­ence between a high-quality and a low-quality company.”

The attached chart, pub­lished yes­ter­day on Busi­ness Insider, illus­trates the 21-day stock cor­re­la­tion within the Rus­sell 1000 Index. It shows that cor­re­la­tion has fallen from a peak of about 0.75 in Sep­tem­ber to about 0.2.

Wor­thing­ton said that the key short-term dri­ver of this has been the Euro­pean Bank's three-year pro­vi­sion of liq­uid­ity through its Long Term Refi­nance Oper­a­tion that was announced in December.

He said: "The LTRO has sig­nif­i­cantly reduced the tail risk in the mar­kets. The huge risk of finan­cial implo­sion has gone away for the time being. Last year the mar­kets were dic­tated by macro calls and now they are focus­ing on stocks."

For many man­agers, the drop in cor­re­la­tion is a wel­come respite from the high cor­re­la­tions dri­ven by macro­eco­nomic news­flow that char­ac­terised the mar­kets for much of last year.

Look­ing at val­u­a­tions alone would have cre­ated the wrong idea: defen­sive growth stocks trad­ing at high mul­ti­ples per­formed well, while cheap cycli­cal stocks per­ceived as value invest­ments suf­fered losses.

At times com­pany share prices moved not on indi­vid­ual val­u­a­tions but on the per­ceived coun­try risk or cur­rency risk of the issuer. Late last year, for exam­ple as investors became more con­cerned about France's triple-a rat­ing poten­tially being down­graded, French stocks were sold off indis­crim­i­nately, in line with the market's per­cep­tion of an inher­ent risk of invest­ing in France.

Accord­ing to data provider Hedge Fund Research, the aver­age hedge fund gained 2.63% in Jan­u­ary, with equity strate­gies lead­ing the way, up 3.84%.

Among long/short equity man­agers, many of last year's biggest losers rebounded strongly in Jan­u­ary. Crispin Odey's Odey Euro­pean fund is up dou­ble dig­its this year, while Lans­downe Part­ners' UK fund gained 5.7% in Jan­u­ary, investors said.

Wor­thing­ton said that although stock selec­tion detracted from his fund's per­for­mance in Decem­ber, by Jan­u­ary it accounted for 60% of the returns.

How­ever, he also sounded a note of cau­tion. He said: "The mar­ket always starts the year quite buoy­ant as com­pa­nies invari­ably come out with good expec­ta­tions and they have a full year to disappoint.

"There's been bit of a 'dash for trash' too — in the US, for exam­ple, the top-performing stocks this year under­per­formed by 40% on aver­age in 2011. A lot of the highly-leveraged, high-cyclical com­pa­nies have bounced as port­fo­lio man­agers have rotated out of more defen­sive names."

Accord­ing to Credit Suisse strate­gists, the rota­tion ratio in Jan­u­ary was 76%. This means that around three quar­ters of sec­tors either out­per­formed in Jan­u­ary 2012 after under­per­form­ing in 2011 or vice versa, the high­est level of rota­tion since 2001. Banks are the most strik­ing exam­ple of this, they said.

The chart was first reported by Busi­ness Insider blog.

In other news, Final­ter­na­tives reports that Gold­man Sachs' for­mer spe­cial sit­u­a­tions chief will launch his new firm's maiden hedge fund next quar­ter along with another Gold­man and Tudor vet:

Richard Ruzika, global head of spe­cial sit­u­a­tions at Gold­man between 2007 and last year, founded Dublin Hill Cap­i­tal in Con­necti­cut with Lance Bakrow and Joe How­ley. The Connecticut-based firm will unveil its Global Macro Fund in an effort to take advan­tage of the strategy's cur­rent pop­u­lar­ity, HFMWeek reports.

Ruzika was co-head of global macro trad­ing and global head of com­modi­ties at points dur­ing his 29-year career at Goldman.

Bakrow, another Gold­man Sachs vet­eran, is a founder of Green­wich Energy Part­ners. How­ley, a Tudor Invest­ment Corp. vet­eran, was man­ag­ing direc­tor of nat­ural gas trad­ing at Sem­pra Energy.

When­ever you read vet­er­ans from Gold­man and Tudor are get­ting together to start a global macro fund, it's worth meet­ing them and dis­cussing their new fund. Ask them lots of tough ques­tions but this is the type of new fund I like invest­ing in.

I've been tough on hed­gies lately. Some­one accused me of "wag­ing war against them". Noth­ing can be fur­ther from the truth. While I've seen many "malakies" in the hedge fund indus­try, includ­ing non­sense within pen­sion funds invest­ing in hedge funds, I still believe that excel­lent hedge funds are worth invest­ing with.

Do I believe in pay­ing 2 & 20? A lot less than I used to. Why? Because most hedge funds are mediocre and the large ones are mostly asset gath­er­ers. More­over, insti­tu­tions can repli­cate a lot of hedge funds strate­gies inter­nally and if you're a large pen­sion fund like ATP, you got a large enough bal­ance sheet to beat them at their own game at a frac­tion of the cost. It's stu­pid to get eaten alive by hedge fund fees, mak­ing them rich for gath­er­ing assets.

Tonight I had din­ner with some for­mer col­leagues. We all worked in hedge funds before. We were dis­cussing how stu­pid it is for large pub­lic pen­sion funds to pay mil­lions in fees to hedge funds instead of devel­op­ing alpha inter­nally. These guys are sharp money man­agers and know all about hedge funds. One of the guys can slice and dice any hedge fund strat­egy and reverse engi­neer it. The other is a credit spe­cial­ist who has done his share of due dili­gence on hedge funds and knows all about alpha and man­ag­ing money.

We all feel that too many insti­tu­tions are wast­ing their money on hedge funds. Save your money, develop alpha tal­ent inter­nally and don't waste your time and resources chas­ing hedge funds. And if you are going to ven­ture into hedge funds, seed some alpha man­agers who are per­for­mance dri­ven but don't take an equity stake!!!

All these insti­tu­tions invest­ing in hedge funds, includ­ing the Caisse and Ontario Teach­ers', should pub­licly dis­close how much they've dis­bursed in fees since incep­tion of their hedge fund pro­grams. My guess is hun­dreds of mil­lions. Sure, they've invested in some great funds, made money, but also got clob­bered in oth­ers which you'll never hear about. The point is would they have been bet­ter off tak­ing the ATP approach, invest­ing in inter­nal hedge funds? Results speak for them­selves.

Below, Ann Pet­ti­for, George Kapopou­los and Matina Ste­vis dis­cuss the prospect of a Greek default on Al-Jazeera. Debt dis­cus­sions in Greece have stalled on pen­sion dis­pute. If Greece defaults, you'll see macro news take over again, and cor­re­la­tions rise across all asset classes (except bonds).

If all hell breaks loose, hedge funds will suf­fer. If a deal is struck, watch out, a mas­sive liq­uid­ity rally could mean many hedge funds will under­per­form. Both sce­nar­ios would be bad for hedge funds, espe­cially the for­mer one. At the end of the day, most hedge funds are a lot more like mutual funds and pen­sion funds in that they des­per­ately need the big beta boost to make money.

Leo Kolivakis is an independent analyst with a Master’s in Economics from McGill University and over ten years experience in the buy and sell-side. He was a senior investment analyst at two of the largest public pension funds in Canada, the Caisse de dépôt et placement du Québec (Caisse) and the Public Sector Pension Investment Board (PSP Investments), where he researched, recommended and invested in traditional and non-traditional asset classes like stocks, bonds, foreign exchange, hedge funds, private equity, infrastructure, commodities and timberland. In 2007, He completed a detailed report for the Treasury Board Secretariat of Canada on the governance of the Public Service Pension Plan. On April 21st, 2009, He was invited to speak at the Standing Committee on Finance on pensions. Feel free to contact me at lkolivakis@gmail.com for specialized consulting mandates on pension investments, or if you have any other inquiries or comments. Read more from the author/contributor here.

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