From Lyxor Asset Management
The global economy finished on solid footing in 2013 and growth is set to maintain a healthy pace in 2014. Demand in the developed economies is recovering steadily aided by supportive policies which have helped smooth the deleveraging cycle. Growth in the US is leading other regions and is helped by increased house prices, investment growth and consumer and business confidence. Inflation remains muted in most developed countries allowing central banks to run accomodative policy despite a pick-up in growth.
An environment with moderate growth, low inflation and high liquidity has historically benefited equities more than other assets. Global equities returned about 25% in 2013 driven by earnings growth and P/E multiple expansion.
Equities are the most overweight asset class in our rankings for 2014. While we do not expect a repeat of the strong performance of last year, equities will likely generate reasonable returns in 2014 in-line with earnings growth. Multiple’s expansion is possible given the inflation environment and potential flows into equities, but it should vary across geographies. We forecast that government bond yields will drift higher throughout the year driven by better growth, but the improving fundamentals of companies should more than offset a
modest rise in rates. In credit, spreads are near all time lows and the asset class doesn’t offer significant upside.
Economies and markets are transitioning from liquidity to growth. The shift should benefit hedge funds that are positioned to play themes related to the more mature phase of the cycle.
Among Alternative Strategies, our constructive view leads us toward those focusing on equity markets. However in contrast to last year, we believe that stock selection and relative value strategies will offer more attractive opportunities. In 2013, only 10% of the stocks in the S&P 500 had a negative return, which highlights the difficulty for hedge funds to find attractive shorts. Our favorite segment of the L/S equity universe is the Variable Bias managers who can generate returns from stock picking on the long and short side.
Merger Arbitrage should do well next year as a resurgence of M&A activity from late 2013 is sustained in 2014. Admittedly, the backdrop for M&A has been attractive for several years but receding macro risks and rising asset prices will probably push companies to spend the cash on their balance sheet. We favor Special Situation funds that can enact change through activism related to capital structure and business strategy.
Lastly, we are underweight L/S Credit and CTA funds. Opportunities for bottom-up credit selection are limited both on the long and short side. Within the space, we prefer funds focused on Structured Credit, a market segment enjoying improving perspectives. CTA returns have been too inconsistent over the past several quarters and we wait for better trends to reengage the strategy.
“The environment for hedge funds to generate relative value returns is more attractive than it has been in many year and 2014 should be a bright year for the industry” says Jeanne Asseraf-Bitton, Head of Global Cross Asset Research.
Related articles: Outlook For European High Yield Credit (Jan 2014)