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Recent stock market volatility has served to remind
investors of the potential role of alternatives in a diversi-
fied portfolio. Alternative mutual funds use asset
classes and strategies designed to have low correlation
with traditional stocks and bonds, thus in theory pro-
viding ballast to a portfolio when the markets are rocky.
One of the most popular entry points for investors
considering alternative strategy mutual funds has
been the multialternative Morningstar Category. Multi-
alternative funds, as their name suggests, combine
multiple alternative strategies and asset classes within
a single portfolio, making them a natural starting
point for investors who want alternatives exposure but
lack the know-how to research, select, and combine
single-strategy alternative funds on their own.
But multialternative funds also present challenges.
The multialternative category is extremely heteroge-
nous, and performance is widely dispersed. Most funds
have relatively short track records (as is the case
across alternative categories). Moreover, fees tend to
be higher than those of both traditional long-only
funds and single-strategy alternative funds. Finally,
performance has been somewhat disappointing.
For all these reasons, it’s important when selecting a
multialternative fund to choose a highly experienced
management team running a reasonably priced fund.
Breaking Down the Multialternative Category
First, it will be helpful to break down the varying types
of approaches within the category. We have identified
three main substrategies within the multialternative
category, and there are some further nuances within
those strata. Those three substrategies are multi-
strategy, global macro, and hedge fund replication.
Multistrategy
:
The multistrategy approach is by far the
most common in the category. Multistrategy funds
allocate to distinct alternative strategy sleeves in the
portfolio, using a variety of techniques and structures.
Although portfolio managers may alter their alloca-
tions to the sleeves over time, the allocations are gen-
erally fairly static or strategic in nature. Approximately
two thirds of funds in the category use a multistrategy
approach. Within the multistrategy bucket, there are
several distinct subtypes:
Multistrategy–Fund of Hedge Funds:
These funds use
managed-account structures to directly access hedge
fund strategies.
Multistrategy–Fund of Mutual Funds:
These funds
employ a traditional fund-of-funds structure.
Multistrategy–Single-Manager:
These funds rely on
the internal expertise of the asset manager to allocate
across teams or strategy types within the firm.
Global Macro:
Global-macro managers have the flexi-
bility to invest long and short across global asset
classes and markets. Allocation decisions tend to be
based on a mix of macroeconomic factors (such as
interest rates) and more-fundamental rationales (such
market valuations in one region versus another).
Global-macro funds typically use liquid futures to carry
out their ideas and often have significant currency
components, and many often rely on buckets of pair
trades (when long and short ideas on a set of securi-
ties are matched within a certain sector, for example).
Hedge Fund Replication:
Whereas most multialter-
native funds are premised on the notion of manager
skill, hedge fund replicators take a different tack:
Proponents of these funds take the view that most
hedge fund returns can be traced to market factors,
or beta, and that those factors can be identified and
replicated through sophisticated regression tech-
niques. There is academic support to this viewpoint,
but the real-world results have been fairly disap-
pointing. Hedge fund replication mutual funds, of
which there are a handful, are among the cheapest
multialternative strategies available.
How Have Multialternative Funds Performed?
Most multialternative funds are designed as
moderate-return, lower-volatility vehicles that should
Making Sense of Multialternative Funds
Morningstar Research
|
Josh Charlson