Analysis: A few hedge funds standout in a ho-hum year

BOSTON (Reuters) - Some well-known hedge fund managers are really earning their hefty pay this year.

Even as hundreds of the industry's big name players are struggling to keep pace with the Standard & Poor's 500 index 6 percent rise so far this year, a handful are delivering the sort of outsized returns that made hedge funds red-hot before the financial crisis hit.

Dan Loeb, Ray Dalio, and Michael Hintze, already some of the world's most closely watched managers, are having stellar years. Each is the manager of a large fund that is up more than 20 percent this year, said people familiar with the funds.

By comparison, the average hedge fund has registered a 5 percent gain in the first nine months of the year, the same as the average U.S. stock mutual fund, according to Hedge Fund Research and Lipper Inc.

The three managers, in their cases at least, are making a strong argument for the hedge fund industry's standard "2 and 20" compensation system -- in which managers rake in a 2 percent asset management fee and 20 percent of a fund's profits.

Specifically, Loeb's Third Point Offshore Fund was up 21.4 percent through the middle of October, Hintze's CQS Directional Opportunities Fund gained 22 percent and the flagship fund at Dalio's Bridgewater Associates was up roughly 38 percent .

"A few hedge funds are killing it (significantly outperforming the market), but there are not too many in that group," said Samuel Norvell, senior vice president at Hennessee Group LLC, which puts money with hedge funds.

And while these top-performing managers pursue largely different strategies, there is one theme that has seemed to work for all -- bets reflecting a view that the world's most developed economies, including the United States, will not rebound as robustly as many had expected even a year ago.

"Not everyone believed in the recovery," said John Trammell, chief executive officer at Cadogan Management, adding: "And anyone who has bet on credit continuing to tighten will have made money."

This year's list of big-name winners also includes Man Group's AHL Diversified Fund and Renaissance Technologies' Institutional Futures Fund, or RIFF portfolio, which both rely heavily on computer models to determine trading.

Beyond the small group, however, the landscape appears barren, with the bulk of managers, even many who once became stars on single-stock or sector bets, struggling to post positive returns.

John Paulson, who made billions on the housing crash, reported that his flagship Advantage Fund was off 0.40 percent at the end of September. And Philip Falcone, another winner in the sub-prime lending catastrophe, reported that his Harbinger Capital Partners Offshore Fund had lost 15.24 percent through the middle of October.

HEROES KEEPING HEADS ABOVE WATER

"This year, if you are delivering 6 percent or 7 percent you are going to be considered a hero," Trammell added.

Investors have a string of reasons to blame for this year's tepid returns, including volatile markets; Europe's debt crisis; and a lack of companies for hedge funds to short, or bet against, as even some lower quality companies have seen their stock prices rise.

"This has been an increasingly frustrating development for hedge fund managers," said Charles Gradante, co-founder of the Hennessee Group, which invests with hedge funds. "Until we see fundamentals return to the forefront of investing, we believe hedge funds will have difficulty executing their strategy."

But the year's top performers still have found gold amid the wreckage -- sometimes literally, industry analysts said.

As the shiny metal surged to $1,300 an ounce because investors wanted it as a hedge against inflation at a time when central banks were still adding money to stimulate growth, savvy gold investors have been rewarded.

Loeb, whose fund was up 21.41 percent through the middle of October, told investors that he had made gold bullion into his fund's second largest position at the end of September, after he began using the metal late last year as a "doomsday and fat-tail risk" trade.

Loeb also said that the firm had put on "asymmetrical trades using derivatives, options and debt securities to hedge against extraordinary global events."

Meanwhile, Hintze, who founded $8.2 billion CQS in 1999, also told investors that he expects the global economy to grow at various speeds, with only sluggish growth in the United States and Europe.

"Not only do we see opportunities for distressed debt investing in the U.S., but also increased opportunity in Europe where regional developments in bankruptcy law make Europe an increasingly interesting arena," Hintze said in a letter.

Bets on stocks, both long and short, and bets in distressed debt -- the firm never gives names -- have all helped Hintze's six-year old, $911 million go-anywhere Directional Opportunities Fund score its 22 percent gain in the first nine months, investors said.

Dalio's Bridgewater Associates, meanwhile, engages in so-called global macro investing in which it makes big wagers on stocks, currencies and interest rates. The fund's 38 percent gain was driven, in part, by bets on Treasuries amid a view that government debt would remain popular during uncertain economic times.

For some, this year's high returns have helped fuel increased demand. Bridgewater, already America's biggest hedge fund with $86 billion, pulled in $7.3 billion in new money during the first half of the year.

But industry analysts also warned that returns at some of this year's winners can be quite volatile, leaving open the real chance that there will be lower returns down the line.

(Reporting by Svea Herbst-Bayliss, editing by Gerald E. McCormick)