How hedge funds are dealing with the global market meltdown

The sudden turmoil in world markets could boost some hedge funds and trip up others. Here's what to watch.

• The global market meltdown has clear winners and losers among hedge funds.
• Investors who thrive in choppy markets have done well previously at firms like Capstone and Eisler.
• Asia-focused firms and currency traders at big macro funds might have been wrong-footed.

Japan's Nikkei index had its biggest single-day fall since 1987. The VIX, Wall Street's go-to snapshot of market volatility, is at its highest point since the onset of the pandemic. Stocks are falling in Europe and the US.

And hedge funds are sifting through the wreckage, with some looking to survive and others planning to pounce.

In any market meltdown, there are clear winners and losers given the strategies and positioning of different firms. Rapid dislocations like these can throw off trend-following funds and quant strategies. Macro managers have the opportunity to win big with a few correct calls.

While the actual profits and losses made during this turbulence won't be known for a while, there's an early set of firms that people are watching — for better or worse. Business Insider spoke to half a dozen plugged-in people around the industry in different regions and roles to get a read of the land.

Asia-based multi-strategy funds, for example, have been growing as allocators sought out differentiated returns from US equity markets, but with a structure akin to industry giants like Citadel and Millennium.

But these firms, like their peers based in New York and London, rely heavily on relative-value trading, which, as one longtime Asia investor said, is "inherently short volatility" since one of the strategy's core principles is a reversion to mean historical prices. Any sudden move — up or down — can throw off these trades.

The decision by the Japanese central bank to raise interest rates to 0.25% last Wednesday has thrown prices across the region into flux, several Asia traders told Business Insider. One predicted that many of the Asian hedge funds could be looking at losses around 2% to 3% in a single day.

The yen carry trade has also likely wrong-footed many macro funds, several industry veterans said. The trade, which relies on the Japanese currency staying stable but weak relative to other currencies, has "broken," according to several macro investors, as the yen strengthened against the US dollar.

Several people say big macro managers have been known to invest in the yen carry trade, which involves borrowing money in currencies with lower interest rates, like the yen, and investing them in currencies with higher ones.

Naturally, on the winning side, people point to firms that should be obvious beneficiaries of market shake-ups. Several London-based allocators mentioned Capstone and Eisler Capital as strong volatility trading firms to keep an eye on.

And one firm that typically soars during market dislocations — Mark Spitznagel's tail-risk firm Universa Investments, which "focuses on protecting clients against the most catastrophic of market crashes" — is betting that this is just a taste of what's to come.

"He believes what we are experiencing right now is still not the crash he has been expecting. The sell-off is only temporary, and a blow-off high is still coming," his spokesperson wrote in an email.

"In Mark's words, the bearishness in the market right now is incredible but he continues to remain bullish, as he has for the past 18 months."

From an industry point of view though, this might lead to more existential problems down the road.

Hedge funds have generally benefited from higher US interest rates. More stock market turbulence, for example, allowed savvy managers to distinguish themselves from indexes and peers. It also slowed dealmaking, annoying private equity investors whose capital was tied up in older vintage funds.

Hedge funds compete with their private equity counterparts for capital from institutional investors, and with an interest rate cut more likely now, the industry's main competition for capital is licking its chops.

"If anything, I think this will encourage the Fed to take action, which is really what the market's looking for," Harvey Schwartz, the CEO of private equity giant Carlyle, said on the firm's earnings call Monday morning.