The Eurekahedge Fund of Funds index declined 2.2% this August, as hedge funds, on the whole, ended the month down (-1.8%), on the back of heightened volatility across markets, especially through the first three weeks of the last month; equities, bonds and currencies across most major markets saw double digit declines between mid July and mid August, mainly due to, among other factors, the level of weakness in the credit markets on account of the US mortgage market meltdown.

Owing to the heightened volatility seen across various asset classes, fund of funds across most strategies ended the month negative. Managers investing in relative value hedge funds suffered the largest losses, averaging 2.5%, as many hedge funds deploying quantitative models for their portfolio selection were hurt due to indiscriminate closing of long and short positions during the month. Funds invested in long/short equity focused hedge funds were also down 2.5%, owing to the magnitude of volatility in equities across the globe.

However managers did make some gains - which, in most cases, only offset a portion of the intra-month losses suffered - out of some short and long positions throughout the month.

Macro (-2.2%) and multi-strategy (2.1%) managers were considerably down too, as those hedge funds (-2.6% and -1% respectively) were hit by the spike in volatility during the month, which brought about tremendous turbulence in currencies, bonds, equities, and other influencing factors.

The first few weeks of August witnessed sharp corrections across most financial markets amid concerns over leverage and contagion, triggering a re-pricing of risk, higher borrowing costs, widened credit spreads, and heightened equity and credit volatility. The markets are still seeking some clarity on the impact of the credit tightening on consumer behaviour.

But, on the positive side, the mid-August intervention from major central banks towards easing a liquidity crunch scenario, as also expectations of cuts in the short-term interest rates, bode well for market participants, particularly when business sentiment continues to be resilient. 

Indeed, the FOMC meeting of 18 September cut interest rates by 50bps rate cut (futures had already priced in a 100% chance of a 25bps cut). That said, it remains to be seen whether the Fed rate cut will provide sufficient impetus for a return of risk-taking.

From a hedge fund, as well as a fund of fund perspective, as with any market correction, this will likely provide attractive buying opportunities for fundamentals-driven, long-term positions on the one hand, and profitable short-term trading opportunities on the other.

For the latest August 2007 returns and 2007 YTD returns for the Eurekahedge hedge fund and fund of funds indices, visit www.eurekahedge.com/indices or contact editor@eurekahedge.com to comment on this report. Rajeev Baddepudi is hedge fund analyst with Eurekahedge in Singapore