Markets have benefited from the de-escalation of the tariffs narrative but uncertainty levels remain very high. Inflationary pressures being dampened by lower energy costs are a positive, but PMIs are still pointing to a slowdown in activity. In Europe, expectations of higher growth rates driven by significant investment plans are a tailwind. However, domestic demand currently continues to rise at a moderate pace and sentiment surveys continue to point to weak growth due to poor consumer confidence and business investment.
Equities recovered well during the month, with most indices returning mid to high single-digit positive returns. US equities outperformed during the month, but, since the start of the year, they are still lagging core European equity indices. At a sector level, healthcare stocks lagged the market. Concerns about healthcare regulation and drug pricing were particularly impactful for biotechnology and healthcare providers and services.
Western countries’ levels of indebtedness are a concern for the market. The US is particularly vulnerable due to policies maintaining a negative fiscal deficit. Long-term Treasury rates were volatile, with yields ranging from 4.5% to 5%. The 30-year issue ended the month at 4.7%. In Europe, Euro 10-year yields decreased around 25 basis points to 2.45%.
The HFRX Global Hedge Fund EUR returned +0.98% over the month.
Long-Short Equity strategies did well during the month. The market rebound gave an additional tailwind to net long strategies. European strategies averaged lower returns during the month compared to US-focused strategies, although European funds have outperformed their peers since the start of year, monetising good equity dispersion levels. On average, strategies remain well hedged, with a net long exposure that is closer to the lower range over the last 12 months. Managers are keeping net exposures low until there is more hard data and clarity about the probability of a future recession. Well diversified capital allocations to Long-Short Equity strategies have proven to be resilient during market drawdowns and were able to generate strong risk-adjusted returns over time. In a world of sustained uncertainty and diverging economic performance, Long-Short Equities are able to extract alpha from increasing market dispersion.
Discretionary macro strategies averaged slightly positive returns over the month and, relative to the month of April, displayed modest levels of dispersion. Strategies carrying long equity positions were positive outliers during the period, while long currency positions in Euro and Yen were also positive contributors. Systematic global macro strategies’ average performance slightly underperformed discretionary managers. The ability to navigate markets has been challenged by the hyperactivity of the new Trump Administration, which has driven heightened volatility across asset classes. At the same time, this volatility has been a significant source of opportunity. The economic decoupling of major regional powerhouses has accelerated since the start of the year, offering attractive opportunities for macro managers to deploy capital and generate strong returns. However, caution is warranted over short-time horizons due to the unpredictability of the US administration’s policy agenda.
Multi-Strategy Quantitative managers did well over the course of May, driving positive contributions, mainly from equity-statistical arbitrage programmes. Trend-following strategies generated negative returns during the month, with short and medium-term models detracting the most from performance. Gains in equity futures were outbalanced by losses in trades in fixed income, currencies and commodities.
May once again proved to be a challenging month for fixed income arbitrage strategies. A spike in long-term rates, triggered by the US credit downgrade, rippled through developed bond markets, followed by a global bond rally driven by slower growth and declining inflation, which in turn increased expectations for rate cuts.
These market shifts negatively impacted US swap spread trades, as Treasury spreads to swap rates narrowed to historic level. Despite the complex environment, which requires disciplined risk management across all strategies, the fixed income space continues to offer a wide range of trading opportunities across cross-country trades, relative value strategies and directional positions.
Event-driven strategies performed well during the month, benefiting from positive contributions from Merger Arbitrage and Special Situations. Merger deals benefited from spread compression and from the successful completion of a few well managed deals. The acquisition of US Steel by Nippon Steel has not yet been concluded but has received approval from Donald Trump to proceed. The FTC completed its antitrust review following the acquisition of Hess by Chevron, allowing the merger to proceed subject to a few conditions. Among the new deals of the month, Salesforce announced the acquisition of Informatica for $25 per share, offering a 30% over-market premium. Early year predictions of a rich opportunity set for mergers has not yet materialised for obvious reasons. Deal volumes are below expectations. On the other hand, merger spreads are richer. Policy-driven uncertainty will need to cool before a clearer picture emerges of the opportunity set for the remainder of 2025.
Since the start of the year, credit markets were relatively immune to equity market volatility, until corporate credit spreads spiked significantly in early April. Spreads then progressively eased over the course of the month as tariff tensions started to partially deescalate. High Yields spreads of US corporations continued to tighten during May, but are still wider than at the start of the year, reflecting the accrued risks for the corporate world of deteriorating economic fundamentals. Prior to the hard tariff disclosures, managers were relatively constructive regarding the credit market. Future positioning and opportunity set will depend on the US Administration’s policy decisions and hard data over the coming quarters. One of the market’s current weak spots seems to be the leverage loan market. Over the last 12 months, the number of US High Yield Bond issuers being upgraded is 20% higher than those being downgraded. For US loan issuers, upgrades are 40% lower than downgrades. Also, according to the JP Morgan Default Monitor, over the last 12 months, the percentage of loan defaults including liability management exercises has reached 3.9% – treble the level of high yield defaults over the same period.
Although uncertainty levels remain high, corporate credit spreads have tightened significantly since 9 April, in part due to first quarter earnings that were in line with expectations and to the postponement of tariffs to July. It is widely believed that volatility will remain high during the year however. Managers have concentrated their portfolio into their highest fundamental convictions, increased the level of hedges and lowered strategy directionality. On the other side, such a rich market generates numerous opportunities for alpha shorts. Absolute return or hedged investment approaches have gained more relevance with the increase of idiosyncratic risks and geopolitical uncertainty. Risk diversification is important and should be an integral part of the investment allocation process.
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