Hedge Fund Market Commentary

January 2016

Broad Markets: Equities

Total Return (%)

S&P 500 Index

Russell 2000 Index
Russell 3000 Index
MSCI AC World Index
MSCI AC Asia Pacific Index
MSCI AC Europe Index
MSCI Emerging Markets Index

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-4.96
-8.79
-5.64
-6.03
-8.00
-6.48
-6.49

-4.96
-8.79
-5.64
-6.03
-8.00
-6.48
-6.49

-4.96
-8.79
-5.64
-6.03
-8.00
-6.48
-6.49

-4.82
-16.78
-7.00
-10.63
-16.02
-12.90
-22.72

-0.67
-9.92
-2.48
-6.80
-11.43
-9.39
-20.91

11.30
6.11
10.55
3.91
-0.66
-0.60
-9.24

10.91
7.25
10.40
4.45
0.17
1.05
-5.56

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
11.98
16.51
12.42
13.38
14.44
17.23
17.98

0.87
1.03
0.89
1.00
0.88
1.26
1.08

-0.05
-0.07
0.00
0.00
0.13
0.02
0.32

2016 began with the worst opening week in history for equities worldwide on concerns over Chinese growth, continued
lower oil prices, uncertainty over future central bank actions, political and economic issues in emerging economies and
the impending US presidential elections. The month saw incredible whipsaw price action and the S&P ultimately erased
nearly $2 trillion in market value by finishing down 5.1%.
International markets, particularly emerging markets, declined even more during the month: Shanghai -22.7%, MSCI
Emerging Markets Index -9.1%, Nikkei -8.0%, and Euro Stoxx -6.4%. The continued decline in oil prices hit emerging
markets particularly hard, while rising political conflict and economic stagnation, particularly in Europe, weighed on
developed markets.
China's equity market had the worst start to the New Year of any country. A-Shares fell 22.7% on the month and two
"circuit breakers" were triggered, which suspended equity trading nationwide. China then suspended the controversial
circuit breaker system, the central bank moved to allow for further depreciation of the yuan, and state-controlled funds
were rumored to be buying equities in order to support the plummeting stock market.
Equity market volatility was elevated throughout the month and the VIX closed January at 20.2, up slightly from 18.2 at
the end of December, but traded as high as 27.4 intra-month.

Broad Markets: Fixed Income

Total Return (%)

Barclays Aggregate Bond

Barclays Government
Barclays Muni Bond
Barclays TIPS
Barclays High Yield Corporate Bond
BBA 3 Month LIBOR Index

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

1.38
2.08
1.19
1.48
-1.61
0.05

1.38
2.08
1.19
1.48
-1.61
0.05

1.38
2.08
1.19
1.48
-1.61
0.05

2.04
2.87
4.41
-0.32
-8.32
0.25

-0.16
0.44
2.71
-3.03
-6.62
0.36

2.14
1.96
3.43
-1.56
0.70
0.29

3.51
3.19
5.75
2.81
4.24
0.34

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
2.75
3.14
3.42
5.00
6.26
0.04

-0.04
-0.09
-0.02
-0.05
0.22
0.00

0.35
0.23
0.26
0.96
0.99
0.00

Considering the colossal decline in investor sentiment, it was not surprising to see the flight-to-safety effect in global
fixed income and the US Dollar. 10-Year US Treasuries rallied 35bps to 1.92%, German bunds rallied 30bps to 0.30%, and
the US Dollar Index gained 1.0%.
In their first meeting since raising interest rates in December, the Fed kept interest rates in January steady (between
0.25% and 0.50%). Although this was in line with investors' expectations, equities soldoff and fixed income rallied
following the Fed's decision as investors had expected language that offered greater reassurance and support from the
Fed in light of recent global market volatility.
The Barclays US High Yield Corporate Bond Index fell 2.2% for the month while Leveraged Loans declined 0.7%. The
continued fall in the oil price was behind much of the underperformance of US high yield as default risk in the energy
sector rose and inflation remained weak.
The Bank of Japan surprised markets by joining the euro area, Switzerland, Sweden, and Denmark in moving short-term
rates into negative territory. This was the first rate change for the BoJ in five years, and this effort marginally stemmed
the bleeding in the Nikkei and the Yen, while Japanese 10 year notes (JGBs) rallied 17bps to 0.10%.

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Hedge Fund Market Commentary

January 2016

Real Assets
Total Return (%)

Bloomberg US Commodity Index

FTSE NAREIT US All Equity REITs
Alerian MLP Index
FTSE Dev. Core Infrastructure 50/50 Index ^

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-1.09
-3.52
-11.10
0.05

-1.09
-3.52
-11.10
0.05

-1.09
-3.52
-11.10
0.05

-24.75
4.92
-32.66
-2.35

-23.36
-6.56
-38.18
-7.51

-18.41
8.01
-10.73
4.65

-13.93
10.21
-1.48
5.39

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
14.54
15.25
17.54
10.45

0.64
0.58
0.57
0.66

0.51
0.89
0.73
-0.19

The Bloomberg US Commodity Index fell for a seventh straight month and touched the lowest level since 1991 amidst the
worst commodity collapse in a generation. As if the 38.8% drop in 2015 wasn't bad enough, WTI had its worst ever start
to a year. WTI dropped 12% in the first four trading days of 2016 and at one point was down 23.0%, although finished the
month down 11.9%. Precious metals were one of the few bright spots in January amidst the risk aversion: gold gained
5.3% and silver rallied 3.2%.
MLPs declined 11.1% in January and largely traded in tandem with WTI. Towards the end of January, MLPs followed WTI
higher and rallied sharply off the intra-month lows, recovering half of their earlier losses. Solid fourth quarter 2015 results
from bellwethers Enterprise Products Partners (EPD) and Kinder Morgan (KMI) also provided support to MLP prices in the
latter part of the month. MLP yields remain attractive at 9.6% and a number of MLPs have actually increased
distributions. A key overhang in the market is whether MLPs will need to access expensive external capital to fund their
growth or if they will reduce capex spending and thereby fund future growth from existing cash flows.
US REITs fell 3.5% in January, holding up moderately better than the S&P 500. US REITs outperformed Europe (-5.7%),
Asia/Pacific (-7.1%) and Emerging Markets (-11.5%). Despite generally solid underlying fundamentals in most US REIT
sectors and a moderate tailwind from lower interest rates, concerns over economic growth continue to weigh heavily into
the latter stages of the current real estate cycle. During January the more cyclical sectors underperformed, with
Lodging/Resorts (-9.7%), Office (-8.2%), Industrial (-6.1%) and Apartments (-5.0%) underperforming. Self-Storage (+2.7%),
the top-performing sector in 2015 (+40.7%), continued its recent run of strong performance.

Hedge Funds: Overview

Total Return (%)

HFRI Fund Weighted Index **

HFRI FOF: Composite Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-1.72
-2.89

-1.72
-2.89

-1.72
-2.89

-5.18
-5.68

-2.75
-3.26

2.15
2.23

1.86
1.48

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
4.84
4.05

0.29
0.21

0.28
0.24

In January, the HFRI Fund Weighted and Fund of Funds indices were down 1.7% and 2.9%, respectively. However there
was a wide spread of returns and most funds managed to outpace the dismal global equity returns.
Equity Strategies (-3.7%) and Even Driven Strategies (-2.3%) were impacted by both downside beta capture and
significant negative alpha. Credit strategies held up marginally better as Distressed (-2.1%) and Credit (-0.9%) managers
sidestepped the biggest losses in the high yield energy space.
Relative Value (-1.7%) strategies, which generally perform best in low volatility markets, was challenged by continued
market dislocations, but long volality market neutral managers were able to generate modest positive returns
Global Macro (+1.6%) and Systematic Macro (+2.6%) were the bright spots for the month and provided strong
diversification to both public markets and other hedge fund strategies. Systematic managers generally capitalized on the
short oil trend while discretionary managers profited from fixed income flatteners and long US Dollar trades.

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Hedge Fund Market Commentary

January 2016

Hedge Funds: Market Neutral/Arbitrage

Total Return (%)

HFRI Relative Value Index **

HFRI Convertible Arbitrage Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-1.70
-2.73

-1.70
-2.73

-1.70
-2.73

-4.46
-4.19

-1.99
-1.31

2.37
2.26

3.64
1.95

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
3.12
4.25

0.11
0.16

0.47
0.41

Fixed income arbitrage managers generated gains in January due to profits from bond basis trading as well as tail risk
hedges. Fixed income market volatility increased materially as expectations of future Fed rates hikes diminished. There
were a significant flattening of the US Treasury yield curve, with 10-year yields tightening 35bps, and implied volatility for
swaption contracts reached a one-year high near the end of January. Managers also generated strong profits from tail
risk hedges in both currency and equity markets as growing concerns about slowing global growth drove demand for
downside protection.
Convertible arbitrage managers generated losses in January convertible bond valuations cheapened but this was offset
by positive contribution from hedges. Convertible arbitrage managers held up much better than long-only convertible
bonds, as the BAML All Convertibles Index returned -6.8% in January. New issuance activity was weak in January, with
only one deal in US and a handful of new issues in Europe. Convertible arbitrage managers were positioned
conservatively but added exposure to core holdings in the healthcare and technology sectors with solid underlying credit
fundamentals. The Japanese convertible bond market benefited from the protection afforded by the asset-swap product
and the significant pick up in realized volatility.
Volatility arbitrage managers with a long volatility bias generated sizeable gains in January as both implied and realized
equity volatility increased. One notable trade that was particularly beneficial was straddles on the Chinese renminbi,
which profited from the significant increase in implied volatility after multiple central bank devaluations.

Hedge Funds: Credit/Distressed

Total Return (%)

HFRI Corporate Index **

HFRI Distressed/Restructuring Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-0.94
-2.13

-0.94
-2.13

-0.94
-2.13

-4.39
-10.59

-2.38
-8.51

0.87
-0.40

2.84
1.48

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
3.76
5.47

0.11
0.22

0.68
0.52

In January, credit strategies held up marginally better than other hedge fund strategies and credit manager performance
ranged from -2% to 1% in January, with some outliers on either side.
There was a clear delineation between long-biased and long/short credit funds in January. Long/short credit managers
significantly outperformed in the first half January, as short positions, particularly in energy-related issuers, drove
positive performance. Long/short managed gave back some of the earlier gains with the market rally but mostly finished
in the black. Long-biased managers showed weak first half results but rallied with the market to finish the month down
1% to 2%.
Some managers were helped by the sharp rally toward the end of the month as oil prices rebounded and central bank
policy shifted noticeably dovish. The high yield market rallied by 255bps off of lows, which limited the loss to -1.8% for
the month. Higher rated bonds outperformed in January as BB, B and CCC bonds were down -1.1%, -1.6% and -4.2%,
respectively. Energy bonds rallied off double digit losses mid-month to finish the month down -8.8%. Managers invested
high in the capital structure and with limited exposure to energy-related names outperformed on the month.

Hedge Fund Market Commentary - January 2016

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Hedge Fund Market Commentary

January 2016

Hedge Funds: Event-Driven

Total Return (%)

HFRI Event-Driven Index **

HFRI Activist Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-2.26
-6.11

-2.26
-6.11

-2.26
-6.11

-8.14
-10.03

-4.91
-3.57

1.51
4.84

2.07
4.24

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
5.16
11.39

0.25
0.55

0.37
-0.07

It was a challenging month for Event Driven managers with activist and special situations sub-strategies leading the
declines. Unsurprisingly, funds that employ longer-biased strategies and those that invest more heavily in situations that
lack hard-catalysts posted the biggest declines. Multi-strategy event driven managers generally held up better in January,
due in part to merger arbitrage exposure.
Exposure to MLPs was a source of underperformance for several managers as the sector continued to sell off with falling
oil prices. Health Care exposure also weighed on returns as the widely held stocks of Valeant, Allergan, and Zoetis all
traded down 8% to 12% in January.
Argentine sovereign credit positions performed well in January as President Macri constructively engaged in discussions
with the holdout creditors . In the first week of February, Argentina offered to pay holdout creditors $6.5 billion on $9
billion of defaulted paper. While the creditor group refused the offer as too low, negotiations are ongoing and appear to
moving towards a resolution.
Merger arbitrage was a bright spot in January as spreads tightened in a number of widely held deals such as Time Warner
Cable/Charter, SABMiller/InBev, Broadcom/Avago, and BG/Shell. Profits were realized in Precision Castparts/Berkshire
Hathaway as the deal closed in January.
While the total value of newly announced investible deals during January was low, a number of deals announced in the
first week of February, including Syngenta/ChemChina, Alere/Abbott Laboratories, and Questar/Dominion have resulted
in year to date M&A activity that exceeds the amount announced over the same period last year. Event driven managers
generally remain overweight merger arbitrage.

Hedge Funds: Equity Long/Short

Total Return (%)

HFRI Equity Hedge Index **

HFRI Equity Market Neutral Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-3.66
0.81

-3.66
0.81

-3.66
0.81

-8.03
3.00

-3.52
4.90

2.45
4.45

1.72
2.91

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
7.28
2.51

0.46
0.11

0.23
0.11

Long Short Equity strategies were significantly affected by the global market rout. Many were whipsawed by the sharp
rally on the last day of the month, and by short positions in the Energy sector which rebounded in the final few weeks.
Gains on the short side did not keep pace with the broader market decline and also produced negative alpha, as
evidenced by the GS Very Important Short Index loss of 4.4%.
Not surprisingly, managers with long-biased strategies, particularly those with outsized exposure to Financials as well as
to higher beta positions in the IT and Healthcare/Biotech sectors underperformed peers with low net exposure.
Positive outliers included managers with short exposure to high beta stocks, those with defensively-oriented long
portfolios (including exposure to Consumer Staples companies that reported strong earnings, like Constellation Brands),
and those which utilize macro and tail-risk hedges (including puts on the Chinese Renminbi).
Building on the trend that began in the second half of 2015, managers have continued to reduce overall levels of risk.
Morgan Stanley reported that the global long/short ratio remains close to post crisis lows, driven by large reductions in
net exposure to international markets during the month of January, which was followed by aggressive selling in the US
during the first week of February. The recent selling has driven US net leverage to 45%, which is below its 2015 low and
in the bottom 10 percentile over the past 5 years.

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Hedge Fund Market Commentary

January 2016

Hedge Funds: Global Macro

Total Return (%)

HFRI Macro Index **

HFRI Macro: Discretionary Index **
HFRI Macro: Systematic Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

1.54
-1.11
2.58

1.54
-1.11
2.58

1.54
-1.11
2.58

0.63
-2.75
1.87

-2.17
-0.76
-4.05

1.26
-1.31
2.71

0.34
-0.89
0.89

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
4.12
4.00
7.05

0.11
0.22
0.09

0.18
0.28
0.08

January was a strong month for both discretionary (+1.6%) and systematic (+2.6%) global macro funds and provided
diversification to other hedge fund strategies. Gains were taken across all asset classes, particularly commodities (short
oil), fixed income (long duration and flatteners), and long the US Dollar versus various crosses.
Systematic global macro strategies captured trends in fixed income, energy, equity and FX markets. Long-term
trend-followers saw their biggest gains from long fixed income positions followed by short energy, both WTI and Brent.
While most systems had turned net short global equities by the beginning of the year, these signals were not as strong as
other asset class signals, and equities were only a small contributor to returns on the month.
Discretionary global macro managers delivered mixed returns in January, and while they underperformed their
systematic counterparts, returns had a positive skew. Small gains were taken from tactically trading equites from the
short side (including the S&P and the Nikkei) as well as profiting from oil's continued decline. Losses, however, were
generally taken in fixed income trading from short Eurodollar and 3-month Libor positions.
The major investor concerns of 2015 an oversupply of oil, slowing Chinese growth, escalating emerging market debt,
investor outflows in high yield, and the timing of the Fed's interest rate hike remain of paramount importance going
into 2016, and discretionary global macro traders remain cautiously positioned. Global macro managers have reduced
their bets that the Fed will aggressively continue their hiking cycle in 2016, although many managers still believe that the
Fed will hike short-term interest rates two or three times this year.

Hedge Funds: Multi-Strategy

Total Return (%)

HFRI RV: Multi-Strategy Index **

Month

QTD

CYTD

FYTD

1 Year

3 Years

5 Years

-1.72

-1.72

-1.72

-3.71

-1.30

2.74

2.91

5 Year Risk Statistics

Standard
Equity
Credit
Deviation (%)
Beta *
Beta *
2.86

0.12

0.33

Multi-strategy funds generated mixed returns in January, performing in line with expectations and outperforming global
equity markets. Performance ranged from -3.0% to +3.8%.%.
Multi-strategy managers significantly reduced gross and net exposures to long/short equity strategies. Multi-strategy
managers maintained the bias of being long defensive names with strong idiosyncratic investment themes while being
short more cyclical/industrial companies.
Multi-strategy managers remain cautious in deploying capital to stressed and distressed credits due to concerns over
continued downside amid ongoing volatility in commodity and currency markets. European corporate credit markets
were quite volatile in January but some managers benefited from legacy holdings in Icelandic banks, which started
distributing proceeds to holders of liquidation claims. Multi-strategy funds modestly increased exposure to structured
credit, specifically to non-agency RMBS and CDO liquidation strategies during the month of January.

Hedge Fund Market Commentary - January 2016

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Hedge Fund Market Commentary

January 2016

Other Hedge Fund News

Operations:

th

On January 11 , the SEC's Office of Compliance Inspections and Examinations (OCIE) released its examination
priorities for 2016. One area of focus for the OCIE is to assess market-wide risks, which include efforts to test and
assess each firm's implementation of cybersecurity procedures and controls. In response, hedge fund managers have
documented cybersecurity procedures, developed incident response teams and have engaged outside consultants to
assess preparedness. In addition, the OCIE has prioritized utilizing available data from prior exams and regulatory
filings to identify signals of potential illegal activity. This initiative includes analyzing trade data obtained from clearing
brokers to identify and examine firms or individuals that may by engaged in potentially inappropriate trading
activities. As a result, hedge fund managers may face an increasing number of inquiries and data request from the
regulator and increased requirments of firm legal and compliance resources. The OCIE will also continue to assess the
Anti-Money Laundering programs of clearing firms and broker-dealers to ensure the adequacy of AML programs.

Daniel Stern
dstern@cliffwater.com
Chris Solarz
csolarz@cliffwater.com
February 10, 2016

"Equity Beta" and "Credit Beta" represent the beta coefficients of the MSCI ACWI and Barclays US High Yield Loans indices, respectively, which were
calculated via two-factor unconstrained ordinary least squares regression using monthly returns over the trailing 5 year period.
** Hedge Fund Research, Inc. ("HFR") is the source and owner of the HFR index data contained in this report and all trademarks related thereto.
^ UBS Global Infrastructure & Utilities 50/50 Index through March 31, 2015; FTSE Developed Core Infrastructure 50/50 Index thereafter.
The views and information herein reflect the views of Cliffwater and information only through the date hereof and are subject to change without notice. All information has been obtained
from sources believed to be reliable, but its accuracy is not guaranteed. Cliffwater has not conducted an independent verification of the information. No representation, warranty, or
undertaking, express or implied, is given as to the accuracy or completeness of the information or opinions contained in this report. This report is not an advertisement and is not intended for
distribution, commercial use or for the investing public. Rather, this report is being distributed for informational purposes only, should not be considered investment advice, and should not be
construed as an offer or solicitation of an offer for the purchase or sale of any security. Any ratings do not create an investment adviser client relationship. Cliffwater shall not be responsible
for investment decisions, damages, or other losses resulting from the use of the information. Past performance does not guarantee future performance.

Hedge Fund Market Commentary - January 2016

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