Multi-Strategy Funds Outpace Traditional Hedge Funds in Recent years
A growing divergence in performance has emerged between multi-strategy funds adn traditional fund of hedge funds, with the former demonstrating significantly stronger risk-adjusted returns in recent years. This shift is prompting sophisticated investors to re-evaluate their allocation strategies and adopt approaches more akin to those employed by the most prosperous multi-strategy managers.
The landscape of option investments is undergoing a transformation. For years, investors relied on fund of funds to diversify their exposure to the hedge fund universe. Though,recent data suggests this model is losing ground. According to analysis of the market, risk-adjusted returns between large multi-strategy funds and the HFRI Fund of Funds index were comparable during the pre-crisis period of 2020-2021. However, over the past five years, the Sharpe ratio of multi-strategy funds has nearly doubled that of the typical fund of hedge funds.
What accounts for this outperformance? A key factor is the agility of multi-strategy funds in responding to changing market conditions. “multi-strategy funds have been much better at adjusting their portfolios to capitalize on shifts in the chance set,” one analyst noted. This adaptability is driven by their ability to allocate capital across a wide range of strategies and asset classes, maximizing returns based on prevailing market dynamics.
A breakdown of pre-fee performance reveals the drivers of this success. The analysis highlights the importance of equity beta, tactical alpha – representing shifts in asset allocation – and position alpha, which stems from security selection and the exploitation of illiquidity premia. [Placeholder for chart illustrating performance breakdown by alpha and beta]
This trend isn’t lost on leading investors. The most sophisticated allocators, including prominent funds of funds, are increasingly mirroring the dynamic approach of multi-strategy funds. Analysis of dozens of live portfolios reveals that those achieving consistent outperformance of 300 basis points or more relative to benchmark indices are actively shifting exposures across strategies, guided by feedback from underlying managers. In essence, the best allocators are evolving into multi-strategy funds themselves, moving away from passive index tracking.
The shortcomings of traditional hedge fund indices are also coming under scrutiny. The perception that these indices have delivered disappointing performance is “valid,” according to industry observers. The analogy is drawn to the S&P 500 being heavily weighted towards industrials during a technology boom – a static allocation that would miss significant growth opportunities. Attempts to replicate fund of funds and liquid indices have largely failed to generate the absolute returns anticipated before the 2020-2021 period.
Looking ahead, questions remain about the future performance of newly launched liquid alternative products, particularly those burdened by increased regulatory constraints. While the impact on strategies like equity long/short may be limited, a diversified model – such as those employed by alternative multi-manager mutual funds – is expected to be more significantly affected. Concerns are mounting that these constraints could lead to continued underperformance relative to investor expectations in 2026-2027.
The evolving landscape demands a more proactive
Here’s a breakdown answering your questions:
Why: Multi-strategy funds are outperforming traditional hedge funds due to their agility in adapting to changing market conditions and
