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November 02, 2018  

Structured-Product Hedge Funds On a Roll

Hedge funds that invest in structured products were largely profitable amid the financial market’s October carnage, which punished equity funds and took a heavy toll on high-yield bond funds.

Some of the leading structured-product shops managed to produce strong gains for the month, building on year-to-date returns that already were among the best of any hedge fund strategy. Take Prosiris Capital, which told investors last week that its Prosiris Global Opportunities Fund was on track to return 2% in October, after gaining 12.7% during the first nine months of the year. And Medalist Partners’ Harvest Fund rose about 1.5% for the month. At the end of September, it was up 7% year-to-date.

After several years of lackluster returns, structured-product managers said investors suddenly are giving them a fresh look. “We certainly will outperform equities this month, and investors are paying attention,” one said.

Funds that trade asset-backed securities, mortgage bonds and collateralized loan obligations have benefited from positive “carry,” with cashflows from the bonds offsetting minimal dips in their values. Meanwhile, the Bloomberg Barclays U.S. Corporate High Yield Bond Index fell 1.6% in October.

“We didn’t see our auto or credit-card bonds widen the way we saw corporate bonds, particularly high-yield, widen,” one investor said.

Heading into October, structured-product funds with strong year-to-date returns included:

Angelo, Gordon & Co.’s AG Mortgage Value Partners, up 10.4%.

Brigade Capital’s Brigade Structured Credit Fund, up 8.2%.

Ellington Management’s Ellington Credit Opportunities fund, up 7.3%.

Hildene Capital’s Hildene Opportunities Fund, up 12.8%, and Hildene Opportunities Fund 2, up 11%.

One William Street Capital’s One William Street Partners Fund, up 6.5%.

Seer Capital’s Seer Capital Partners Fund, up 8.1%.

Tilden Park Capital’s Tilden Park Offshore Investment Fund, up 10.1%.

The HFRI Fixed Income-Asset Backed Index was up 4.8% as of Sept. 30 — among the highest-returning strategies tracked by Hedge Fund Research. By comparison, the HFRI Equity Hedge (Total) Index was up just 1.7%, while the HFRI Fixed Income-Corporate Index had gained 2.2%.

In the years immediately following the 2007-2008 market crash, structured-product funds turned in eye-popping returns, as mortgage bonds they bought for pennies on the dollar recovered much of their value. Investors cooled on the strategy, however, as the financial-crisis play dried up. The HFRI asset-backed index rose just 2.1% in 2015.

But performance has been improving, with the index increasing 7.7% in 2017. One manager said he’s hopeful the strategy’s solid showing this year will draw more capital to structured-product funds.

“The massive rotation out of structured credit that happened beginning in 2015 is over, and a lot of the tourists have left the space,” he said. “The players that remain are stable, and the performance has been rock solid.”