Last year's volatility drove hedge funds to an overall loss of -4.8 per cent last year, the second decline in hedge funds in four years, according to a new report.

Data from Chicago-based Hedge Fund Research revealed that the HFRI Fund Weighted Composite Index declined by 0.18 per cent last December, resulting in an overall negative performance of -4.8 per cent for the year.

Last year’s volatility and “unpredictable market dynamics” landed hedge funds in a challenging environment, explained Kenneth Heinz, president of HFR. This was exacerbated by aggregate losses across currency, commodity, emerging markets and equity strategies regarding the European currency and sovereign debt crisis, he said.

Although hedge funds gained 0.77 per cent in the first half of last year and 1.3 per cent across the last three months, there was an abrupt fall of 6.7 per cent in the “volatile” third quarter.

Macro strategies and relative arbitrage strategies posted gains in December, with 0.16 per cent and 0.5 per cent respectively. Macro strategies declined by 3.6 per cent over the course of the year, while event-driven saw a narrow decline of 0.01 per cent in December and an overall decline of 2.65 per cent, HFR said. 

Relative value arbitrage strategies posted gains while equity hedge and emerging markets lagged behind in 2011.

Equity hedge strategies were the weakest area of performance, posting a decline of 0.66 per cent in December, in turn concluding 2011 with a decline of 8 per cent.

Weakness in energy and basic materials, emerging markets and fundamental growth “undermined equity hedge performance,” according to HFR, as full-year declines of 16.75 per cent, 12.9 per cent and 12.6 per cent were recorded respectively.  

However, in contrast to these declines, some equity hedge sub-strategies managed to obtain gains, including 1.14 per cent within technology and healthcare and 1 per cent in short bias.

“Risk-off trades dominated 2011, creating challenges for convergence oriented funds, while contributing to gains across fixed income and certain low net exposure hedged strategies,” said Heinz in a statement.

“After a challenging third quarter, hedge funds adapted strategies to this continuing macro-volatility dynamic in the fourth quarter, in anticipation of this environment persisting into early 2012,” he added.