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Wednesday June 02, 12:17
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Hedge funds reduce forex exposure, switch to bonds
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Hedge funds, wary of foreign exchange volatility, have scaled down their currency exposure as they are convinced the market’s lucrative run is over, analysts say.
With federal funds futures pricing in a Federal Reserve interest rate hike this month given more upbeat U.S. economic data, hedge funds have taken to shorting bonds instead, analysts say, because Treasury prices are expected to fall if the Fed tightens monetary policy.
’Shorting’ or taking short positions in an asset is to effectively bet that that asset will decline in value.
Higher interest rates, which reflect inflationary expectations, tend to erode the face value of fixed-income investments.
"Hedge funds believe that the forex market’s home run is done. Last year, they made a lot of money in currencies, selling the U.S. dollar, especially against the Aussie dollar and sterling because of their high interest rates," said Richard Franulovich, senior currency strategist at Westpac Banking Corp in New York, which deals with hedge funds and long-term money players.
"That story has turned this year," as the greenback gained ground on dollar-boosting rate hike expectations, he said. Higher yields tend to enhance the allure of U.S.-based assets for global investors.
"Most funds are positioned short bonds instead," Franulovich added. A typical hedge fund takes both long and short positions in securities or currencies. It uses leverage and arbitrage when possible, investing in any market where it foresees impressive gains at reduced risk.
No one knows the exact size of global hedge funds, but based on Morgan Stanley estimates, these leveraged accounts could have as much as $1.5 trillion to $2.0 trillion in assets under management.
LICKING THEIR WOUNDS
Bruised by a fairly robust dollar that profited from a higher U.S. interest rate outlook, most hedge funds posted losses in the last three months, according to Parker Global Strategies. The Connecticut-based company tracks the performance of commodity trading advisors (CTAs), which are included in the broad hedge fund universe.
For most of last year, the majority of hedge funds had bet on a weaker dollar, consequently posting healthy returns, thanks to the U.S. currency’s decline.
Traders say hedge funds, which mostly follow existing market trends, have stayed on the sidelines over the last few weeks, frustrated by choppy price action in currencies.
"We have the least amount of currency positions now that we’ve ever had ... because there is really no clear direction in this market," said John Taylor, chairman of FX Concepts in New York, a currency hedge fund that manages an estimated $9.5 billion in assets.
"I don’t speak for all hedge funds. But if they’re any good, I would imagine that they would have very few positions as well. There doesn’t seem to be anything to make money on," he added.
Analysts, however, said that since last week some hedge funds have slowly crept back into the market, sensing another round of dollar weakness. The euro has firmed close to $1.23, from about $1.1950 a week ago.
"Most of the hedge funds have liquidated their currency positions, but right now it seems that the market is getting calm and some are getting involved again," said Chris Melendez, president of currency hedge fund Tempest Asset Management in Newport Beach, Calif.
Westpac’s Franulovich said most hedge funds are positioned for more declines in the dollar as they expect U.S. May payrolls to come in below consensus forecasts given the soft trend in U.S. jobless claims in the last few weeks.
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