Insights
Hedge Funds 2026 Outlook
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Alternatives 2026 Outlook
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December 18, 2025
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Hedge Funds 2026 Outlook
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December 18, 2025
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Hedge Funds 2026 Outlook
Hedge Funds 2026 Outlook |
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Eyes Wide Open as AI, Markets Reach New Summits
Key points:
- Increasing active risk while minimizing market beta
- Diversifying by strategy and region as much as possible to capture unique alphas
- Innovating on implementation structures to retain the highest level of alpha possible.
What We Are Seeing
Equity markets are on track to deliver yet another strong year of returns – a feat that seemed implausible during the depths of April’s tariff-induced volatility. As of the time of this writing, the S&P 500 has returned 18.75% so far in 2025, leaving the benchmark in striking distance of generating a third-consecutive annual return of 20%+. The market resiliency over the past several years has been remarkable; but history tells us these strong beta environments don’t persist in perpetuity. In fact, four consecutive years of 20%+ gains has occurred only once before: from 1995-1999.
We continue to believe that hedge funds will play a valuable role in investor portfolios during 2026, regardless of the market’s ultimate direction. If markets continue to climb higher, we believe hedge funds have earned a place in investor portfolios on their own merit: the HFRI Fund Weighted Composite Index has generated a 9.12% annualized return since inception, nearly matching the average annual return of the S&P 500 of 9.67%, but with a fraction of the volatility. But if we see evidence of creative destruction in the artificial intelligence space – the primary driver behind equity returns during the last few years – or if other macroeconomic uncertainties begin to weigh on markets more broadly, investors should look to hedge funds to offer a source of diversification that is sorely lacking in many portfolios given the heightened correlation between equities and fixed income.
What We Are Doing
At a portfolio level, we stress three key themes:
1) Increasing active risk while minimizing market beta
2) Diversifying by strategy and region as much as possible to capture unique alphas
3) Innovating on implementation structures to retain the highest level of alpha possible.
At a sub-strategy level, we believe the environment remains conducive for both fundamental and quantitative stock selection strategies. Equity dispersion has increased in recent months, and we expect an environment that is driven by individual corporate fundamentals to persist in 2026. International markets have followed the upwards trends that are visible in the US. However, there has been an increase in dispersion in both Europe and Asia leading to what we believe will be a rich stock picking environment on both sides of the portfolio; however, we stress a market neutral approach. There has been a marked increase in capital markets activity recently, improving the opportunity set for event driven strategies, which we expect to persist throughout 2026. Discretionary macro funds have been a standout performer in 2025 and are, we believe, poised to continue their strong performance, capitalizing on divergence in Central Bank policy, geopolitical crosscurrents, and ongoing volatility in FX, rates, and commodities markets. The flexible, nimble nature of these managers should also prove useful in offering convex returns if markets experience episodic volatility.
What We Are Watching
While we acknowledge the powerful nature of artificial intelligence and acknowledge that many companies are poised to benefit from this transformative technology, we are closely watching developments in this space. Signs of excess are appearing – and the market may be ripe for a period of creative destruction in 2026. Thus far, vast amounts of capital has been spent funding a to-be-determined amount of future revenue. We question how long the appetite will persist for continuing to fund the hopes of future revenues. We’ve seen some cracks beginning to form: OpenAI CEO Sam Altman issued a “Code Red” to employees to improve ChatGPT, while the CDX markets tell us that investors are growing weary of the levels of debt issued to fund the AI boom.
Should these dynamics persist or expand, we believe hedge funds would be well positioned to capitalize on a shakeout period, if and when it comes. This would not necessarily be limited to an equity story, although hedge funds’ ability to explicitly take and monetize negative views on securities by going short is a unique and potent feature, offering more potential alpha generation than long-only investors. Using history as our guide, we’re reminded that in the period following the telecom bust in the early 2000s, hedge funds deployed a variety of strategies – from relative value credit to convertible and capital structure arbitrage, and potential distressed opportunities.
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Chief Investment Officer and Head of the AIP Hedge Fund Team
AIP Hedge Fund Team
AIP Alternative Lending Group
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Deputy Chief Investment Officer
AIP Hedge Fund Team
AIP Alternative Lending Group
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