Hedge fund returns were hurt in March by a sharp rise in volatility and weakness in commodity prices, according to the research firm HedgeFund.net.

It reports that early estimates suggest that funds lost 1.35% in March, as measured by the HFN Hedge Fund Aggregate Average, an equal weighted benchmark of all single manager hedge funds and CTA/managed futures products in the HedgeFund.net database. This results leaves hedge fund returns down by 2.1% for the first quarter.

The majority of hedge fund strategies lost ground in March, it said, which contributed to the first negative Q1 performance on record. “Increased volatility surrounding the ultimate failure of investment banking giant Bear Stearns and the ensuing U.S. Treasury actions defined a difficult month,” it noted. However, it also noted that hedge funds enjoyed the largest quarterly outperformance over equity markets since 2001.

“Unlike February when emerging markets and rising commodity prices supported hedge fund outperformance of equity markets, in March the major winners were short biased funds, volatility related options strategies and the relatively insulated asset based lending strategies,” it reported.

The drop in non-energy related commodity prices hurt funds in the HFN CTA/Managed Futures Average, and energy sector funds also lost ground in March despite natural gas prices rising and oil prices near flat. Emerging markets experienced a sell-off in March led by funds investing in China, India and the Middle East/North Africa region, which was hurt by funds investing in Turkey.

Distressed strategies did not fare well in Q1 either, HFN said. “Much is expected from distressed funds in 2008, but the results thus far indicate the environment has yet to produce favorable returns,” it said.