September proved to be a month of stark contrasts for hedge funds, as climbing bond yields reshaped the trading landscape. According to Goldman Sachs prime brokerage data, fundamental long-short managers—who rely on human judgment to pick stocks—lost 0.55% during the month. In contrast, systematic strategies, which follow computer-driven rules, gained 3.46%.
The backdrop was a sharp rise in US Treasury yields, which reached their highest levels in two decades. This move was driven by a combination of central bank messaging and higher oil prices, which together pushed borrowing costs up across the curve. For hedge funds that finance their positions through prime brokers, the higher yields increased the 'cost of carry'—the expense of holding leveraged positions over time.
Why the split?
The divergence between fundamental and systematic funds reflects their different approaches. Fundamental long-short managers make discretionary calls based on research, valuation, and market outlook. They tend to thrive in stable, predictable markets where their insights can be rewarded. September, however, was anything but stable. Rapid moves in yields and shifting expectations about interest rates made it difficult for these managers to adjust quickly.
Systematic strategies, on the other hand, rely on quantitative models that react to market signals automatically. These models can quickly adapt to changing conditions, such as rising yields or shifts in momentum, which may have helped them capture gains even as the broader environment turned volatile.
The rise in yields also had broader implications. Higher bond yields typically pressure equity valuations, especially for growth stocks that promise future earnings. As yields climbed, investors demanded higher returns from stocks, making it harder for companies with long-dated cash flows to justify their prices. This dynamic likely weighed on fundamental managers who held such positions.
What it means for investors
For everyday investors, the hedge fund performance data offers a window into how different investment styles respond to changing market conditions. It underscores that no single approach works in every environment. Discretionary stock-picking can excel when markets are calm and fundamentals drive returns, but it can struggle when macro forces—like interest rates—take center stage.
The rise in yields also has direct implications for ordinary portfolios. When bond yields climb, they become more competitive with stocks as an income source, which can lead to money flowing out of equities. This is part of the reason why Hong Kong stocks slid and other markets felt pressure. However, the recent retreat from 20-year highs suggests that the yield surge may be losing steam, offering some relief to equity investors.
For those with diversified portfolios, the lesson is to expect volatility when yields move sharply. Bonds and stocks often move in opposite directions, but when yields spike, both can suffer. Keeping a mix of assets can help cushion the impact.
Looking ahead, investors will be watching central bank communications and inflation data for clues about the path of yields. If yields continue to climb, fundamental managers may face further headwinds, while systematic strategies could keep outperforming. Conversely, if yields stabilize or fall, the pendulum might swing back in favor of discretionary stock-pickers.
As always, past performance is not a guarantee of future results. The September data is a snapshot of a specific period, and both styles have long-term track records of success and failure. For most investors, the takeaway is not to chase the latest winner but to understand how different strategies behave under different conditions.
