After more than 6 months, the Trump administration has not been able to pass any significant legislative measures. This is not big news but has contributed to the ongoing level of uncertainty surrounding US corporates’ future strategies and to trends like the US dollar devaluation. Q2 earnings in the US have been rather positive, with, on average, deteriorating guidance. This pulled S&P 500 stocks up 0.59% on average when beating estimates even though they lost 4.7% on misses.
July was calm for equities, with Emerging Markets benefiting from a weak dollar. The Eurozone continued its positive dynamic but European equities were slowed down by a strong euro. Fixed income did not move much, apart from specific situations like Brazil, where medium-term rates eased 0.80%. Currencies were a big driver of performance for many strategies, with the USD losing value to principal world currencies like the EUR, the GBP, the JPY, the BRL and the CAD. As for commodities, oil gained on news of supply moderation from Saudi Arabia and base metals like copper were higher on increased demand.
During July, HFRX Global Hedge Fund EUR gained 0.70%.
Long/short equity managers did well on average during the month, managing to capitalize on fundamentals during the earnings season as well as beta, especially in the case of managers with Emerging market exposure. US hedge funds have been decreasing their net exposure to equities while some of these flows have found their way to European equities due to strengthening fundamentals and increasing political stability in the Euro bloc. To accommodate market evolution, which has seen an increase in passive investment, and the difficulty in shorting, we have maintained our neutral stance on the strategy. The recent renormalization continues to unfold and we are progressively transitioning to more pro-cycle managers, who, we believe, are likely to be best positioned to take advantage of the possible pro-business policies expected from the new administration in the US and Europe.
Systematic macro managers did well in July due to long equity positions and short USD vs EUR, CAD, BRL, and GBP currency bets. Discretionary managers were able to navigate 2017 more smoothly, unlike systematic managers, who had a hard time making money on their currency, commodity and fixed income positions. We believe significant shifts in asset prices will continue to occur as anticipations adjust to realities. Macro strategies will be able to capture and benefit from these wide market moves thanks to increasing volatility on rates and FX. Our Global Macro bucket may balance our net long exposure as it invests in different risk factors to our equity funds.
Since the beginning of the year, quant strategies have had difficulties posting positive returns. Long-term models were the ones least affected by the recent short-term market sentiment reversals. Long-term trend-following as well as carry trades were hurt by FX reversals. Momentum and Quality performed positively in Europe and in the US. Short volatility remains a positive strategy but, overall, higher volatility would increase the number of opportunities in our quantitative bucket.
We kept our fixed income arbitrage allocation at the same level. Following the French elections, the spread between Germany and France reduced and European swap spreads returned to their December 2016 levels. Conversly, volatility on interest rates has risen slightly since then in the Euro zone.
The US Libor / OIS spread reverted to its historical lows and former price regime.
Emerging markets still offer plenty of investment opportunities across asset classes (currency, interest-rate curve, single-name equity and debt). Our EM macro managers were successful in generating returns in Asia and Latin America. Both Brazil and Venezuela have experienced a significant increase in volatility in recent weeks.
We are more positive on the strategy even if we remain mindful of the risks linked to the net long bias of event managers. The number of transactions could increase if some degree of deregulation is put in place in the US and also in Europe, if business leaders’ confidence is not affected by political missteps. In such a case, large cash balances earmarked abroad by US corporations could be repatriated and possibly used for acquisitions.
Investments in European event managers that we are exploring will benefit from the need to bolt on growth. In M&A arbitrage, we favour less static and more spread-trading-oriented managers, as average spreads among deals have compressed significantly.
We are more bullish on the distressed cycle, because of the potential increase in interest rates and the reduction in QE. So far, the energy sector, in which there has been massive issuance in recent years, has provided an attractive pool of opportunities, given the volatility of oil prices and its impact on these securities. Traditional brick-and-mortar retailers, seriously affected by technology innovations, offer plenty of dislocations within the sector.
The quest for yield and a zero-to-negative rate environment is still providing strong support for the asset class but volatility could spike if rapid changes in monetary policy surprise the market.