The index, which is an asset-weighted composite of just under 1,000 hedge funds on the firm’s database, still performed better than the S&P 500, which declined 5.4 per cent last month.

With pessimism soaring over the US debt downgrade and fears of a double-dip recession, most Morningstar MSCI hedge fund indexes posted their largest monthly losses of the year, said Terry Tian, alternative investments analyst for Morningstar. Volatility also hit a two-year peak in August.

The Morningstar MSCI Europe Hedge Fund Index underperformed the broader hedge fund index and dropped 4.5 per cent, but again this was still markedly better than the MSCI Europe Index, which plummeted 10 per cent on escalated fears over the region’s financial system, Morningstar pointed out.

Meanwhile, the indexes tracking Asia-Pacific and emerging markets hedge funds dipped by 4.6 per cent and 3.4 per cent respectively.

Relative-value strategies slid by less than other strategies, as they hedged against equity-market risk. The index tracking relative-value funds lost 1.2 per cent, while Morningstar’s merger arbitrage index was down only 0.2 per cent in August. Convertible bonds suffered more, with the Morningstar Convertible Arbitrage Index falling 1.2 per cent.

Asset flows through July saw single-manager funds add $1.6 billion in new money, while fund of funds experienced outflows of $788 million. Global macro hedge funds attracted $2.3 billion in assets, while US long/short equity and long short/debt registered the heaviest outflows at $575 million and $572 million respectively.