While both stocks and bonds lost ground this year, investors were hard-pressed to find uncorrelated assets to sit out the turmoil in traditional investments, with more turning to liquid alternatives and related exchange traded funds.
According to Morningstar Direct data, investors funneled over $21 billion into liquid alternative mutual funds and ETFs so far this year ended May, putting this year’s inflows into the liquid alts category on pace to beat last year’s record $38.3 billion in inflows, the Wall Street Journal reported.
“The 60/40 portfolio has been dead; this isn’t new,” Shana Sissel, founder and president of Banríon Capital Management, told the WSJ. “But now investors are starting to realize that they have to think more critically about portfolio construction and diversification, and alternative strategies are one of the bright spots in the market.”
Liquid alternative fund strategies, or so-called hedge funds for the masses, help individual investors diversify their investment portfolios with complex strategies that were traditionally only accessible to institutional investors and hedge funds. Morningstar Direct data showed that about $192 billion is currently invested in so-called liquid alts.
These liquid alt funds also come with heftier management fees due to their more complex trading strategies, ranging anywhere from 0.5% to 3%, compared to traditional index-based products that can charge less than 0.1% in fees. Nevertheless, these liquid alt funds are still much cheaper than the two and 20 hedge fund fee structure, or a 2% management fee which is applied to the total assets under management and a 20% performance fee is charged on profits beyond a specified minimum.
According to Morningstar, the best performing liquid alts strategies this year cover systematic trend strategies that follow price-momentum by trading futures, options, and swaps, with the average fund in the group up over 16%.
For instance, the KFA Mount Lucas Index Strategy ETF (KMLM) from KFAFunds, a KraneShares company, is among the best performers, jumping 37% in 2022 and attracting $70 million in inflows over the past month. The underlying index, or KFA MLM Index, tracks the performance of Mount Lucas’ managed futures strategy. The index is meant to reflect the return available to managed futures investors through an efficient passive trend following algorithm. The Mount Lucas team trades futures contracts derived from the value of various commodities, currencies, and government bonds.
However, Morningstar noted that other funds in the same category are also down 10% on the year, and the average options trading strategy is down roughly the same.
“You need to do your due diligence because the exposures and types of strategies that these managers employ really differ from each other,” Bobby Blue, senior manager research analyst at Morningstar, told the WSJ. “Even within the categories, there’s a wide dispersion, which speaks to the heterogeneous nature of liquid alts.”
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