Financial markets are experiencing tremendous daily volatility amid an unprosperous outlook across the board. This is largely caused by the still increasing inflation, steep and continuous interest rates hikes and the ongoing war between the Ukraine and Russia. Outstanding bonds have substantially decreased in prices in 2022 so far and there is little hope that this is going to get better. For example, in the U.S., the Fed just recently started to increase interest rates to an interval between 0.75% and 1%. It is now widely expected that this interval will be increased by 0.5% in each of the following two meetings in June and July 2022. However, it is also being debated if the hikes could even reach 0.75%, if the inflation outlook should worsen. The latest inflation update did not help matters either, as the expected inflation was lower than the actual value. At the moment, U.S. inflation is at 8.3%, just slightly below the March’s numbers of 8.5%. When looking at the inflation level across the world, it is still increasing in most countries. Although inflation is low in China, it increased substantially from 1.5% to 2.1% in April. In the Euro area, inflation has now reached a level of 7.5%. The ECB told earlier in the year that interest rate hikes are unlikely to occur before the latter part of H2 2022. Currently, there are strong signals that ECB will begin raising its interest rates in July. This grim outlook has led to substantial sell-off of treasuries. Meanwhile, the 10-year U.S. Treasury has surpassed the 3% mark in early May. Aside from rising interest rates, central banks are planning to shrink their balance sheet, which will put further pressure on equities and the market in general. Equities have further suffered in May, even after one of the worst months in April 2022. In particular, technology stocks have substantially decreased, as they have been inflated the most since the central bank interventions following Covid-19. The Nasdaq Composite Index is down already 25% since the beginning of 2022. Figure 1 shows a comparison of the current tech valuation compared to their historical average. ​

​Markets are continuing to struggle in 2022. Equity markets have suffered substantial losses after their stellar 2021 caused by a combination of inflation, (expected) interest rate hikes and the Russia-Ukraine war. After the strong selloff at the end of April 2022 which closed the worst monthly performance since the financial crisis, equity indices are down substantially. The S&P500 is down almost 14% YTD while the tech-driven Nasdaq index is down more than 21%. The development of the S&P500 since January 2021 is shown in Figure 1 below. After its record high from the end of 2021, the index is as low as one year ago. Although equities are still high from a historical perspective, the anticipated, and very likely, interest rate hikes from the Fed are on the horizon. It is anticipated that the Fed will increase rates by 0.5% in May and possibly another 0.5% in June. This has a substantial impact on still highly valued stocks which will put further pressure on equities. Central banks are feeling the consequences of their extensive interventions during Covid-19. It led to record inflation levels (at least of the last 40 years), and the imminent treat of recession if interest rates are increased. Nonetheless, if interest rates are not increased, inflation could spiral out of control, if it has not already. Given that inflation has reached 8.5% in the US and 7.4% in Europe, the necessity to intervene is obvious. These difficult times are another opportunity for hedge funds to prove their worth, as they have since Covid-19. Despite losses of the industry collectively during Q1 2022, the industry still sees continued inflows. The difficulties from the uncertainties at the current moment make hedge fund selection more important, as the gap between good and bad hedge funds widened. Given the current market situation, equity-neutral, global macro and commodity-based strategies achieved great results. In particular our Discretionary Global Macro strategy had a phenomenal month with a gain of more than 50% in March and a gain of almost 150% in Q1 2022. Our crypto- and equity strategies did well in March 2022 and could partially offset their loss from earlier in the year. Nonetheless, this is unlikely to continue in April, due to the selloff in both markets at the end of the month. Another great alternative to be partially shielded to current market volatility is private equity and venture capital. Although both markets benefitted greatly from the overheated public markets in the past two years, valuations have declined slightly. Regardless of the decline in valuations, there is still a huge interest in the space as money keeps flowing in and the deal activity is very high in the space. The large amount of capital in the space alongside the competition are also likely to prevent such large decreases as the public equity markets see currently. Both of these markets, hedge funds and private equity, are large drivers of alternative markets. According to research from Goldman Sachs and Preqin, the AuM will significantly increase, even in a suboptimal ecosystem. In a grey-sky scenario, they expect the industry to grow to $14tn in 2026, up from $10tn in 2021. In a more favourable blue-sky scenario, they expect the AuM to rise to $31tn in the same time frame. Figures 2 and 3 show their findings.

​While the war in the Ukraine is going on with little progress towards peace, market participants are waiting for further moves from central banks and their announced interest rate hikes to combat inflation. Over the past months, the war had a substantial impact on the currency market, as the Russian Rubel has strongly appreciated against the US-Dollar since the invasion of Russia in the Ukraine. USD-RUB has stabilized at around 80RUB per USD, the same as it has been ahead of the crisis. This is remarkable as it spiked to more than 130 RUB/USD due to the severe sanctions imposed onto Russia. Figure 1 shows the development of RUB-USD since the start of 2022. Despite the sanctions of Russia and its currency, Russia can still control its currency well. They create artificial demand of the Rubel through different measures. For example, foreigners invested in Russia cannot sell their Rubels, they require European countries to pay Russian gas in Rubels, and they require Russian exporters to be paid to 80% of their income in Rubels. These measures all help appreciating the currency against the depreciation pressure from the sanctions. The role of the USD in the FX remains very important, as 88% of the FX transaction involve the USD as one of the currency pairs. It is also crucial in reserves for central banks as it makes up 59% in all currency reserves. This high relevance seems excessive given that it is only responsible for 25% of the world’s GDP. Nonetheless, these are consequences of a currency that is widely regarded as the world currency. An overview of this is shown in Figure 2. This is in particular relevant as for the first time sovereign currency reserves have been confiscated. This may lead central banks to diversify their reserves, increasing the relevance of other major currencies, emerging currencies and real assets, in particular gold. Gold has rallied since the initial threats were looming on the invasion of the Ukraine. It spiked at $2,052 per barrel but did not manage to hold onto this level. As the initial volatility faded, gold fell and is remaining between $1,940 and $1,980 per barrel. Figure 3 shows a summary of this development. Oil experienced substantial volatility, largely due to the invasion of Russia and Russia being a key supplier of oil. Oil started gaining since December 2021, when WTI crude was $70 per barrel. Amid geopolitical tensions and then the looming threat of the invasion, it rose to around $90 per barrel and spiked to $105 immediately once Russia effectively invaded the Ukraine. Since then, WTI rallied between $95 and $120 and has almost fallen to its lowest level since the invasion at $94 per barrel for WTI. Figure 4 summarizes this development. A similar development was observed in Brent crude, as it fell below the $100 mark for the second time only since the start of the invasion. Unlike oil, natural gas has risen to a 15-year high of $6.534 per MMBtu (metric million British terminal units), which poses a huge concern for Europe, as they are highly dependent on Russia’s gas. If Russia would decide to stop gas deliveries to European countries, this would cause a huge recession, as gas-dependent industries likely have to shut down operations very quickly. This is the case, as there are a lot more alternatives for the import of oil than there is for gas.

The war in the Ukraine caused by the Russian invasion is the dominant topic around the world. In particular Western states widely underestimated Putin and the likelihood of the Russian invasion. Initial rumours anticipated an invasion from Russia on Monday, 14th February 2022, as Russian troops supposedly retreated. After the invasion did not take place then, there were some signs of relief, which were short-lived. Fears started to grow when Putin acknowledged the separatists in the Eastern Ukraine, more specifically, Donetsk and Luhansk. There were crucial similarities compared to the annexation of the Crimea peninsula in 2014. While this was going on, Western countries threatened Russia with sanctions. Those did not achieve a meaningful impact, as on Thursday morning, the worst case in that situation occurred. Russia invaded the Ukraine from all angles and managed to shutdown their missile defences almost immediately. Russia conquered several parts of the Ukraine extremely quickly and found itself soon on the doors of the capitol, Kyiv. Later that day, sanctions on Russia were imposed by the US, the UK, the G7 states and most other European countries. These included freezing the assets of some of Russian elites, some banks and businesses in the respective countries. This sanctions prohibit being involved in any kind of business with those individuals, banks or businesses. The US also banned individuals from trading Russian sovereign debt. Those sanctions had little impact on the invasion of Russia. Most people hoped the sanctions would be harsher, but at that point Europe was reluctant on banning Russia from SWIFT due to their reliance on Russia’s oil and gas. The invasion truly changed into a war in the city of Kyiv and over time most countries around the world support the Ukraine with additional weapons and ammunition, while some countries even sent soldiers to help defending the country. On Monday, the SWIFT ban from some Russian banks was announced as well as the extension of listed targets and institutions whose assets are frozen. Initially, Russia’s goal was to de-weaponize the country and to replace Zelensky, the prime minister of the Ukraine, by a more pro-Russian government. Russia employed substantial propaganda and legitimized the invasion by calling the Ukraine being full of Nazis among other things. It now seems very questionable whether replacing the government was the initial target, as it feels much more like a full annexation. This puts in particular the Baltic states into a state of alert, as if Putin’s goal to recreate the former Soviet Union, then they are likely the next target. This also explains the harsh threats from Russia when discussions were held whether Finland should become a NATO state. Further unpleasant developments are that China can be considered neutral towards Russia’s actions, as they first supported the Russian invasion given the reasons from Russia. However, they also followed through on Zelensky’s call to talk to Putin on possibilities to resolve this war. After an initial discussion between the Ukraine and Russia was denied by the Ukraine, it seems to be likely that Putin and Zelensky agreed to a meeting. This comes after Russia’s threat of using nuclear warheads. Unsurprisingly, markets reacted with tremendous volatility over the past two weeks. The sanctions on Russia had a detrimental effect on Russia’s economy. The Russian Rubel collapsed by 30% after Western countries announced the SWIFT ban for some Russian banks, after the Rubel has already lost substantially in value since the start of the invasion, as shown in Figure 1. Russia’s equity market also took a huge hit. On the day of the invasion, the MOEX Russia Index dropped by almost 50% from 3,200 down to 1,700. Despite its recovery, it is questionable how Russian equities will perform in the short-term future, as further sanctions are likely and make doing business outside Russia very difficult.

Central banks, inflation concerns, and geopolitical tensions dominate the market in 2022 so far. Inflation keeps rising in 2022. In the US, the CPI already hit 7.5%, the highest it has been since 1982. Energy remains the key driver of inflation at the moment. In Europe, inflation slightly increased from December 2021 to 5.1% in January 2022. In the UK, the increase in inflation is steeper than in Europe with +0.4% last month to 5.4% in January 2022. Unsurprisingly, energy is also the driving force in the UK. Central banks try to keep inflation under control, which they need to do by raising interest rates, which may have a substantially negative impact on the economy. Hawkish central banks are also responsible for the substantial volatility in the equity market. In particular more speculative sectors, such as technology suffered substantially. The two major contributor for the losses in equity markets were the meeting of the Fed at the end of January 2022, in which rate hikes in March 2022 were hinted, and the Russia-Ukraine crisis. Equities recovered slightly since the Fed-meeting, although markets are again bearish. This is largely caused by the substantial likelihood of the Russian invasion in the Ukraine, as meetings between Russia and the US among others have not yielded any results. The tension of these two major events had a substantial impact on the stability of financial markets, as the VIX index highlights in Figure 1. Both events trigger quite strong reactions in a very short time. The situation is far from over, as it is rumoured that a Russian invasion is imminent. Safe haven assets like gold are slowly increasing in value. Gold is trading at $1,850 per ounce, which is slightly higher than it has been on average since its all-time high back in 2020. Oil prices keep surging as well. US oil prices even reached $90 per barrel and are headed for the $100 mark due to the geopolitical uncertainties. Oppositely, Bitcoin (BTC) which is frequently called an alternative to gold cannot compete. Since it peaked in November 2021, it decreased substantially alongside the entire cryptocurrency market. As many currencies have lost more than 50% from their peak in Q4 2021, people oftentimes speak of another ‘crypto winter’, which refers to what happened in 2017/18, when the entire market completely collapsed.

Hedge Funds
Hedge funds had a great 2021 and managed to set a record high in its AuM. As of the third quarter in 2021, the AuM of the industry is expected to be between $4.3tn and $4.6tn depending on the sources. According to BarclayHedge, the industry’s AuM just surpassed the $4.5tn mark at the end of the third quarter. This is a steep increase from just $3.8tn in 2020, as shown in Figure 6. This is a gain of more than 18% in less than a year. It is expected that the number will rise slightly, once the Q4 2021 numbers are out, as October and November 2021 were rather positive. Nonetheless, December 2021 will have dampened the results of Q4 2021. Generally, the industry has gained substantially over the past ten years, despite a rather inferior view from market participants during most of that period. The AuM soared thanks to two reasons. Firstly, the industry saw substantial capital net inflows. During the first three quarters, the industry received $41bn in fresh capital after having received another $19bn in the second half of 2020. Since then, the industry saw net inflows in every quarter, which is stark break from previous years when the industry experienced net outflows in most quarters. In Q4 2021, net inflows rose to $81bn in 2021, according to Eurekahedge. Figure 7 also shows the severe initial impact of Covid-19 in 2020, when accounting for the significantly positive inflows in the latter half of the year. The second reason for the steep increase in AuM is due to the performance of the hedge fund industry in 2021. Hedge funds in 2021 returned slightly more than 10%, making it the third best year in history after 2020 and 2009 according to HFR. This is remarkable, as the year has not been easy with the constant uncertainty and high volatility in the market. In particular event-driven, equity and commodity strategies have performed very well and the high beta strategies within their respective sector. Figure 8 summarizes the performances of several strategies during 2021 by Eurekahedge. Distressed debt and event-driven strategies performed best with barely any negative performances during the year. Macro and fixed income strategies struggled the most throughout the year, due to the harsh economic conditions. When looking at the highlighted percentiles, it is evident that the high volatility in the market also caused high volatility in hedge fund returns, independent of the strategy. This is most relevant for long short equity strategies whose returns vary between +30% (upper percentile) and -10% (lower percentile) in 2021. Figures 9 to 13 highlight the SMC Strategy Indices in 2021 compared to their benchmarks. The SMC Credit Strategy Index gained slightly more than 5% in 2021, although the variation across strategies is substantial. Two strategies, Trade Finance Crypto and European High Yield L/S Credit did very well in the economic environment, as they reached returns above 12% and 19% in 2021. The Trade Finance Strategy is in particular remarkable, as the strategy has not experienced a negative month since its inception in 2017. The SMC Equity Strategy Index gained closely less than 10%, which is around as much as the average equity strategy in 2021. Within the sector, there was also considerable volatility, due to the sub-strategies. Unsurprisingly, the Equities US Activist Event-Driven performed best with a return exceeding 33%. More tech-focused strategies faced more issues but returned closely below 10% after an extremely successful 2020. Global macro strategies had a tough year and closed only slightly positive for the year. The SMC Global Macro Strategy Index is up almost 37% in 2021, which is largely due to the Discretionary Global Macro Strategy achieving a return of almost 70%. To nobody’s surprise, cryptocurrency strategies performed best in 2021. The SMC Cryptocurrency Strategy Index gained more than 212% in 2021. In the space, it was most important to hold a diversified account of cryptocurrencies to achieve such a great return, as Bitcoin (BTC) gained only 60%. The most successful strategies in the space focused on riskier tokens. The Token and Token Liquid strategies gained 295% and 385% respectively. Despite the great results of 2021, the gains are still inferior to the 342% in 2020. The developments in the crypto space will be discussed in a further paragraph. Lastly, another indicator that the industry is in a healthy state is the fact that the number of launches substantially exceed the liquidations and the number of active funds has reached an all-time high of 22,081.