Hedge funds have had a disappointing start to 2005. According to Edhec, the French business school, the average fund of hedge funds made just 1 per cent in the first quarter of the year. For US or European investors, that is barely better than cash; UK investors would have done better to keep their money in the building society.

April may also prove to be a difficult month. According to Jacob Schmidt, director of hedge fund research at Allenbridge, some commodity trading advisers, or managed futures funds, have suffered heavy losses this month. Edhec figures show that CTAs lost 4.3 per cent in the first quarter.

The CTA category includes some of the best known hedge fund providers, such as AHL (part of the Man group) and Aspect Capital. They use computer models to try to take advantage of trends in a wide range of asset markets. But markets have been choppy so far in 2005, with Treasury bond yields moving up sharply before retreating again.

However, Mr Schmidt says that a recent rise in market volatility should help the hedge fund sector in the medium term. Hedge funds found it difficult to generate substantial profits in early 2004 when market volatility was low but their results picked up towards the end of last year, as markets rallied in the wake of US President Bush’s re-election.

Another hedge fund sector which struggled in the first quarter was convertible arbitrage funds, which attempt to exploit pricing anomalies between equities and convertible bonds. They lost an average of 2.9 per cent in the first quarter. One fund of funds manager said the sector has suffered from widening credit spreads and from investor redemptions.

But it was not all bad news. Short sellers, who bet on falls in asset prices, performed extremely well with a 7.8 per cent first quarter gain. And emerging market funds, while losing money in March, still made more than 3 per cent in the first three months of the year.

Institutional investors have shown increasing interest in hedge funds in the wake of poor equity performance in the 2000-2002 period. But the flood of money into the sector may be reducing profitable opportunities. “Too much money is coming in too fast” says Mr Schmidt.

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