Hedge Funds Slip in February

Lee Hennessee, managing principal of Hennessee Group, said that conditions continue to improve for hedge funds and that she is encouraged by the positive performance after a challenging 2008.

"Volatility is elevated, but not extreme; dispersion among sectors and securities has increased; and the markets are responding to fundamentals (though negative fundamentals), which is allowing funds to generate profits in their short books," Hennessee said.

The strongest gains last month were made by funds invested in the bond markets, shorting the equity markets, or ones that employed arbitrage strategies. On the other hand, health care and biotech related funds performed terribly in February as fund managers were hurt by their long health care positions after President Obama released his budget proposal, which called for spending cuts and reform.

Even some top funds have had issues with high-profile investments, like Cerberus' stakes in struggling U.S. automakers Chrysler and General Motors (GM Quote), which are relying on government intervention to stay afloat.

Other prominent funds of Citadel, Harbinger Capital, Glenview Capital Management, Fortress Investment Group (FIG Quote) and Och-Ziff (OZM Quote) have also suffered and been plagued by investor demands for cash.

Gradante said that there is still a negative overhang from large hedge funds that placed limits on redemptions, and that they are expected to continue selling assets to raise cash for withdrawals. However, there are also some creative ways for investors to gain liquidity from gated funds, he said.

"Most notably, there have been a series of auctions where investors can purchase fund interests in the secondary market at a discount to [net asset value]," Gradante said. "This process benefits limited partners as it gives them immediate liquidity. It also benefits the fund as it eliminates the need to sell securities to fund redemptions."