Cat bonds & ILS perhaps best diversifying hedge fund strategy of Q1 2024

The global hedge fund industry had a strong first-quarter to 2024, adding significant assets under management and delivering strong returns across many strategies. But, when it comes to investment strategies that can be truly diversifying, versus broader economic and capital market trends, catastrophe bonds and ILS were perhaps the best.

According to hedge fund data provider HFR, global hedge fund investment assets under management grew to a record $4.3 trillion in the first-quarter of 2024.

That was an increase of $190 billion, HFR said, which is a lot of additional capital to put to work, as investors seek out positioning to offset perceived growth in geopolitical risk, but on a percentage basis that is only growth of 5% in assets during the period.

Part of that growth has been delivered by performance, something we’ve been seeing in the catastrophe bond and insurance-linked securities (ILS) space, where reinsurance premiums and collateral returns have been driving sector assets higher.

In terms of the returns delivered by hedge funds in Q1 2024, HFR’s weighted composite index of hedge funds was up by 4.5% for the first-quarter of 2024.

As we reported last week, catastrophe bond total returns, as measured by the Swiss Re Index, were up by 4.57%, so slightly more than that for the period.

UCITS catastrophe bond funds were up by 3.65% for Q1, while the ILS fund sector is running at up by 3.15% with 60% of ILS funds reported to the Eurekahedge ILS Advisers Index for March so far.

But, there are plenty of ILS funds, invested in collateralized reinsurance, retrocession and quota shares, that have delivered higher than 4.5% returns for the first-quarter, we understand, as the major loss-free period has enabled strong premium accumulation for them.

Of course, when you dig deeper into the hedge fund space, there are of course sub-categories that did much better than cat bonds.

Ranging from equity hedge funds with a 5.2% return for Q1, to a crypto fund index with 47.9%, according to HFR data.

HFR’s index of what are termed uncorrelated macro hedge fund strategies delivered 6.2%, with some sub-sectors delivering more.

Fund administration and asset servicer Citco reported that it saw the weighted average return of hedge funds at 7.3% for Q1, so somewhat higher than HFR’s index, with equity hedge funds up by 8.49% for the period.

Of course, there are outliers as well, with some hedge funds well into the double-digits for Q1 2024.

But, against this backdrop and considering very few of the hedge fund indices and sectors offer the degree of relatively uncorrelated returns that an investment in pure catastrophe risk can offer, catastrophe bonds and the universe of insurance-linked securities (ILS) look particularly attractive when analysing the first-quarter of 2024.

There are private ILS funds that beat the uncorrelated macro set and again offer a return that is far less correlated with how global macro and financial markets moved.

Going back to assets under management, while the hedge fund universe grew by roughly 5%, remember that the UCITS cat bond fund sector alone had grown its combined AUM by 4% in Q1 2024, with some cat bond funds growing by much more than that.

Remember that alternative capital in reinsurance grew by more than 16% in 2023 according to Aon, while non-life alternative capital grew 11.5% according to Gallagher Re.

Given the continued expansion of the catastrophe bond market, as well as some fresh capital raised into collateralized reinsurance and retrocession strategies, plus growing interest and new launches in the sidecar space, it seems possible the ILS market will have continued to grow as well and perhaps at a faster pace than the overall hedge fund sector.

As we reported last week, the outstanding catastrophe bond and related ILS market, as measured by Artemis, is already up by 5% this year, in terms of dollar size.

But, growth aside, what is most important to note is the fact that, when it comes to diversifying asset classes, there are very few that can be as diversifying as cat bonds and ILS and their performance through the first-quarter of 2024 perhaps makes them a candidate for the best diversifying hedge fund strategy of this year, so far.