Hedge funds have been the worst-performing asset class so far in 2016. As a result, investors have withdrawn more than $56 billion from the category through August. While the worst-performing hedge funds you read about are the behemoths like Tudor and Brevan Howard, the sub-$1 billion hedge fund category is taking more than its share of losses, with the number of such funds down almost 20 percent from their all-time highs in 2008.
Plainly, poor performance is the culprit for this rush for the exits. The average hedge fund has returned just 1.6 percent year to-date, less than one-third of the return on the S&P 500. Much of these dollars is flowing into passively-managed and private-equity funds.
At first blush, many public-company management teams are happy about this development, as it means fewer short-term holders in their stock and less short-term oriented questions on earnings calls and sell-side conferences. Many, however, mistakenly believe fewer hedge funds owning their shares will lower their stock’s volatility. Unfortunately for micro- and small- cap stocks, it is likely to results in just the opposite. Smaller hedge funds have played an important role in created volume in many small-cap stocks, often providing liquidity for a large seller to divest shares in a more orderly manner. In addition, smaller hedge funds have been important prime broker clients for many of the smaller research shops, which are now finding it tougher and tougher to make money covering stocks below $1 billion in market capitalization.
Management teams at these companies need to move quickly to attempt to attract new investors and research into the story. Three must-dos for the remainder of 2016:
If Dan Loeb founder of Third Point is right and we are “in the first innings of a washout in hedge funds,” this “take charge” attitude of small-cap company management teams and their investor relations officers will become standard practice.