Tag Archives: alternative

ALFA: A Market-Beating ETF About To Go Market-Neutral

Summary ALFA allows the retail investor to “invest with the best”. ALFA has shown market-beating performances since inception, with superior upside and downside capture ratios, but also higher volatility. Barring a final-day rally, ALFA is about to go into market-neutral mode. The AlphaClone Alternative Alpha ETF (NYSEARCA: ALFA ) is an ETF that tracks the AlphaClone Hedge Fund Long/Short Index. This index contains U.S.-listed equity securities to which hedge funds and institutional investors have disclosed significant exposure. An interesting feature of the index is that it uses AlphaClone’s proprietary “Clone Score” methodology to aggregate the ideas of hedge funds for which historically it has made the most sense to follow based on their disclosures. Additionally, index constituents are equal weighted but have an overlap bias (i.e., securities held by twice the number of managers have twice the weight). In a recent article entitled ” The AlphaClone Alternative Alpha ETF May Be The Safest Equity Ticker ,” Seeking Alpha author Fred Piard elegantly summarizes the methodology of ALFA as thus: ALFA selects fund managers based on their past performances after publication of their holdings…In other words, past performances must be good, and also replicable. Investing in ALFA therefore allows the retail investor to “invest with the best” (while avoiding 2 and 20 fee structure associated with investing in hedge funds). Only holdings from top managers are chosen for inclusion in the index – holdings from mediocre managers are not considered. ALFA was incepted in May 2012, and charges an expense ratio of 0.95%. Another hedge fund-duplicating ETF is the Global X Guru Index ETF (NYSEARCA: GURU ). Performance The following chart shows the total return performance of ALFA and the U.S. market (NYSEARCA: SPY ) since inception of ALFA. ALFA Total Return Price data by YCharts We can see from the chart above that ALFA has pretty much led SPY wire-to-wire since inception. However, the higher return of ALFA has been accompanied by higher volatility. The following chart shows the 3-year annualized standard deviation (volatility), return, Sharpe and Sortino ratios for ALFA and SPY (source: Morningstar ). We can see from the above chart that ALFA has been about 30% more volatile than SPY over the past three years. This has led to ALFA’s Sharpe ratio of 1.78 being lower than SPY’s at 1.93. Interestingly, however, the Sortino ratio, which unlike Sharpe ratio only takes into account downside (and not upside) volatility, slightly favors ALFA at 4.36 vs. SPY at 4.26. This is consistent with ALFA’s impressive upside and downside capture ratios over the past 1 and 3-year periods, as shown in the chart below (source: Morningstar ). The chart above shows that over the past 3 years, ALFA has managed to return an extra 7% over the S&P 500 in positive months for the market, while decreasing 18% less than the S&P 500 in negative months for the market. Its 1-year upside and downside capture ratios are even more impressive, at 130% and 52% respectively. Obviously, SPY captures 100% of both the upside and downside of the S&P 500. Additionally, ALFA has had a 0.84 correlation with SPY since inception (source: InvestSpy ). Holdings The higher volatility of ALFA compared to SPY may be partially attributed to the fact that ALFA’s portfolio is quite concentrated, with the top 10 holdings accounting for 31.85% of assets, compared to only 173.03% for SPY. Moreover, ALFA currently holds only 73 stocks, compared to the 500 in the S&P 500. The following table shows the top 10 stocks held in ALFA and SPY. ALFA SPY Stock Ticker % Assets Stock Ticker % Assets Apple Inc. (NASDAQ: AAPL ) 7.25 Apple Inc. AAPL 3.75 Valeant Pharmaceuticals (NYSE: VRX ) 7.19 Microsoft Corporation (NASDAQ: MSFT ) 2.03 Celgene Corporation (NASDAQ: CELG ) 2.55 Exxon Mobil Corporation Common (NYSE: XOM ) 1.78 Horizon Pharma plc (NASDAQ: HZNP ) 2.53 Johnson & Johnson Common Stock (NYSE: JNJ ) 1.49 Allergan PLC (NYSE: AGN ) 2.41 Wells Fargo & Company Common St (NYSE: WFC ) 1.46 The Priceline Group Inc. (NASDAQ: PCLN ) 2.36 General Electric Company Common (NYSE: GE ) 1.41 Transdigm Group Incorporated Tr (NYSE: TDG ) 2.22 Berkshire Hathaway Inc. Class B (NYSE: BRK.B ) 1.4 Oracle Corporation Common Stock (NYSE: ORCL ) 2.05 JPMorgan Chase & Co. Common St (NYSE: JPM ) 1.37 Biogen Idec Inc. (NASDAQ: BIIB ) 1.79 Pfizer, Inc. Common Stock (NYSE: PFE ) 1.19 Skechers U.S.A., Inc. Common St (NYSE: SKX ) 1.5 AT&T Inc. (NYSE: T ) 1.15 Besides AAPL, which constitutes 7.25% and 3.75% of ALFA and SPY, respectively, the two funds do not have any top-10 holdings in common. Hedging mechanism ALFA has an interesting hedging mechanism, which when enforced shorts the S&P 500 in an amount equal to the value of the fund’s long holdings. In other words, ALFA becomes market neutral when the hedge is activated. The trigger for the activation is simple – almost too simple, at first glance – it’s when the S&P 500 falls below its 200-day simple moving average [SMA] at month’s end. Why month’s end, which seems like an arbitrary day to choose? Why not the 15th of each month, or the 19th? Surprisingly, choosing the end of each month as the trigger was more effective than the seemingly more logical “5 consecutive days below 200 SMA” rule on data from 1950 to 2014, presumably because the portfolio was hedged less in a long-term secular rising market. Which brings us to the main purpose of this post, which is to inform investors that, unless the S&P 500 gains in excess of 4.35% (from 1988.87 to 2075.41) on the last trading day of August, i.e. in one trading day’s time, ALFA’s hedging mechanism is about to be activated for the first time . Interestingly, this is not the first time that the S&P 500 has dipped below its 200 SMA since ALFA’s inception. As can be seen from the chart below, this has happened at least twice since May 2012. But now let’s take a closer look at each of those two instances. The first event took place in November 2012, around the time of the “fiscal cliff” negotiations. We can see from the above chart that the S&P 500 dipped below the 200 SMA in mid-November, but then recovered above the 200 SMA by month’s end. Hence, ALFA’s hedge was not activated. A similar phenomenon was observed in October 2014: Takeaway What does this mean for investors? If you already own ALFA, you have two basic choices (assuming that the S&P 500 does not rally 4.35% over the weekend). HOLD . You prefer to take a “passive” approach to market timing (an oxymoron, perhaps), and are comfortable with ALFA’s hedging strategy. You understand that ALFA will probably return close to flat in the month of September, plus or minus ALFA’s alpha, and then for every month after that until the S&P 500 breaks above its 200 SMA at month’s end. SELL . You have a strong conviction that the market will resume its uptrend in September and in the months beyond. You do not want to have part of your holdings invested in a market-neutral position, so you sell ALFA and replace it with SPY or another long-only instrument. You will only rotate back into ALFA when the S&P 500 breaks above its 200 SMA at month’s end. For investors who do not yet own ALFA and are considering whether or not to buy this fund, they should be aware that the ETF, if purchased in September, will be a market-neutral fund for at least that month, and then for every month after that until the S&P 500 breaks above its 200 SMA at month’s end. Disclosure: I am/we are long ALFA. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

401(k) Fund Spotlight: AllianzGI NFJ Small-Cap Value Fund

Summary PCVAX’s performance is hampered by its large size. PCVAX has consistently lagged the comparable Russell 2000 Value Index. An examination of the last 2 recessionary periods reveals that PCVAX tends to outperform broader small cap indexes during bear market periods. I select funds on behalf of my investment advisory clients in many different defined contribution plans, namely 401(k)s and 403(b)s. I have looked at a lot of different funds over the years. 401(k) Fund Spotlight is an article series that focuses on one particular fund at a time that is widely offered to Americans in their 401(k) plans. 401(k)s are now the foundational retirement savings vehicle for many Americans. They should be maximized to the fullest extent. A detailed understanding of fund options is a worthwhile endeavor. To get the most out of this article it is helpful to understand my approach to investing in 401(k)s . I strive to write these articles for the benefit of the novice and professional. Please comment if you have a question. I always try to give substantive responses. The AllianzGI NFJ Small-Cap Value Fund The AllianzGI NFJ Small-Cap Value Fund has the following share classes: The net expense ratios for the share classes range from a low of .73% (R-6 shares) to a high of 1.93% (C shares). If the fund is in your 401(k), it is most likely in the form of the A shares (load waived), which have a net expense ratio of 1.18%. For the purposes of this article, I will assume the A shares are the available option and evaluate the fund based on the 1.18% expense ratio. I will use the ticker PCVAX to represent the fund name throughout the article. Fund Size Has Implications PCVAX invests in small cap companies that its managers believe are undervalued, with an emphasis on those paying dividends. The fund focuses on the universe of small cap companies with total market caps ranging from $100 million to $3.5 billion. With a little over $6 billion of total assets, the fund is one of the largest in its category. The average market cap of its 135 holdings is $2.7 billion. This has several important implications. First, the fund has to hold a lot of different stocks in order to have most of its assets invested. Otherwise, if it were to have a more concentrated portfolio (i.e., fewer stocks), it would have substantial ownership interests in these few companies. For example, to invest $6 billion in 50 companies would mean that, on average, a fund would have a $120 million stake in each company. This would mean a stake of 5% to 20% in many of the companies. This would give the investment company a lot more control-and responsibility-as it relates to those companies. My view is that there is nothing wrong with a concentrated portfolio. Indeed, I prefer it, because it would show me they know the companies so well that they are willing to make serious commitments. Sadly, most of the funds in the mutual fund industry have devolved into quasi-index funds with higher expense ratios. The industry’s entrepreneurial investment ambition died off a long time ago and it has been replaced with herd-like complacency. Second, because of this first implication, the fund has to hold a lot more stocks. The more stocks the fund owns, the closer it gets to mirroring the index. It is hard for a large, small cap fund to not be an index hugger. Third, again because of the first implication, it is very difficult for the overall fund to generate enhanced returns from investing in smaller, more unknown small caps that generate exceptional returns. The stocks are just too small to make a major difference to the fund’s overall performance. Performance There are several ways to evaluate the performance of PCVAX. Let us start by taking a look at its comparable index, the Russell 2000 Value Index, which focuses on 2,000 small capitalization (“cap”) stocks with a value orientation. In the following two charts I use the iShares Russell 2000 Value ETF (NYSEARCA: IWN ) as a proxy for the index: PCVAX Total Return Price data by YCharts PCVAX Total Return Price data by YCharts PCVAX lagged the index by more than 5% over the last 12 months and by 11.8% over the last 5 years. Most 401(k) plan participants usually do not have more than a handful of small cap focused funds to choose from (and sometimes just one or even none). If your plan has PCVAX it might also have a general small cap index fund, such as a Russell 2000 index fund, as another option. The following chart shows how the fund has fared against the iShares Russell 2000 ETF (NYSEARCA: IWM ), a proxy for the Russell 2000 index, over the last 5 years. PCVAX Total Return Price data by YCharts The Russell 2000 index has substantially outpaced PCVAX over the last 5 years. However, before you click over to your 401(k) to make an exchange. Consider the following chart: PCVAX Total Return Price data by YCharts PCVAX substantially outpaced the Russell 2000 index (using IWM proxy) during the 2007 to 2009 period that was marred by the global financial crisis and a deep recession. The value nature of PCVAX and its higher dividend yield (2.6% vs 1.7% for the Russell 2000) means it tends to outperform during periods of weaker overall stock market performance. To take this further, let’s also look at the performance of the two during the previous recessionary, bear market period of 2000 to 2002. The following chart is telling: PCVAX Total Return Price data by YCharts The performance of PCVAX utterly destroyed that of the broader Russell 2000 Index during the 2000 to 2002 time period. The fund’s investment objective also caused it to avoid many of the high flying, and wildly overvalued, small cap technology stocks on the NASDAQ. Not only did it outperform, but the fund kept cruising along in a bullish trend despite the collapsing of the technology bubble. Clearly, the value nature of the fund has some merits during recessionary, bear market periods. Conclusion PCVAX does not have any individual holdings that make up more than 2% of the fund. The performance of the fund will largely mirror that of its comparable index, the Russell 2000 Value index. Given a choice only between the two, investors may want to choose the latter, which has also outperformed PCVAX over the last 1 and 5-year periods. The lower expenses of the index also provide a constant tailwind for better performance. My stock market forecast calls for the broader U.S. market to continue to move sideways over the next two years before finally dipping lower (e.g., -5% to -15%) in the third year. Consequently, this may be a setup for a period when PCVAX, and perhaps small cap value in general, once again outperforms the broader small cap index. Investing Disclosure 401(k) Spotlight articles focus on the specific attributes of mutual funds that are widely available to American’s within employer provided defined contribution plans. Fund recommendations are general in nature and not geared towards any specific reader. Fund positioning should be considered as part of a comprehensive asset allocation strategy, based upon the financial situation, investment objectives, and particular needs of the investor. Readers are encouraged to obtain experienced, professional advice. Important Regulatory Disclosures I am a Registered Investment Advisor in the State of Pennsylvania. I screen electronic communications from prospective clients in other states to ensure that I do not communicate directly with any prospect in another state where I have not met the registration requirements or do not have an applicable exemption. Positive comments made regarding this article should not be construed by readers to be an endorsement of my abilities to act as an investment adviser. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Investments In Renewable Energy One Reason Among Many For A Bullish View On Duke

Summary Company has accelerated efforts to get a large regulated asset base in order to secure long-term growth. DUK is investing heavily in its solar and gas-run operations. Company’s future cash flows will improve, which will back its dividend growth. Duke Energy (NYSE: DUK ) is a leading electric power company in the U.S. The company’s financial performance remains satisfactory, and it has been making aggressive efforts to further improve its performance. DUK’s constant efforts to better its financial numbers by making growth investments in renewable energy generation projects have placed it on a growth track. Given the correct growth efforts backed by its healthy capital investments, I expect DUK’s revenues, cash flows and earnings base will get better over time. Moreover, as the company’s future performance will improve, it will continue to share its success with shareholders in the form of cash returns, which will positively affect its stock price; the stock offers a dividend yield of 4.6%. DUK’s Efforts to strengthen its Power Generation Fleet In the recent past, the U.S. government has increased its efforts to lower carbon dioxide emission rate from energy generation fleets of utility companies by imposing heavy taxes and fines. In order to save themselves from taxes and the fine burden, utility companies have increased their focus on the expansion of renewable energy generation resources, such as solar, wind, geothermal, liquid biofuels and hydropower. Owing to the increase in scale of capital investments made by utility companies in renewable energy generation projects, the EIA projects that the U.S. renewable energy supply will steadily grow in the coming years, as shown in the chart below. (click to enlarge) Source: eia.gov As far as DUK is concerned, in the light of strict environmental regulations, the company like all other utility companies has started investing in the expansion of its renewable energy generation portfolio; year-to-date, DUK’s renewable business has attained a capacity of around 2000MW and it is making continuous strides to increase it further. In fact, the company is seeking all possible growth opportunities to increase its renewable energy generation capacity. DUK has recently filed two RFPs with Carolina state regulators; one of the RFP is to seek permission for running 53MW of utility solar capacity in the region, in order to ensure proper supply of energy to customers of the region, least by the end of 2016. And in a separate RFP, the company has mentioned that it is looking for a solar capacity of 5MW for the Shared Solar Program. DUK believes that the Shared Solar Program will be beneficial for those customers who can’t install solar panels in their homes, but still want to enjoy benefits of renewable energy resources. The deadline for approval of both RFPs is mid-October 2015; I believe that with the approval of these RFPs, the company’s process of adapting solar energy will speed up, and will help it meet the growing demand for energy in Florida. Moreover, the Indiana Utility Regulatory Commission has approved DUK’s 20-year purchase agreement to buy up to 20MW of energy from two solar developers in Indiana. Given the fact that solar projects are part of the company’s regulated asset base, I believe that by investing in its solar asset base, DUK will be able to file regular rate increase cases with regulators, which will ultimately better its future revenues, cash flows and earnings base. And as far as its gas-based energy generation operations are concerned, being an important part of its regulated asset base, the company has been making capital investments in its gas-based operations. DUK had previously filed an application to acquire 599MW of combined cycle-gas plant from Calpine, in Florida, which was recently approved by the FERC. Also, the company has announced the acquisition of a 7.5% stake in Sabal Trail gas pipeline for $225 million; with the commencement of its operation by the end of 2017, the Sabal Trail pipeline will serve DUK’s 1640MW Citrus County combined-cycle gas plant, which will begin its operations in 2018. Moreover, the company had announced $1.1 billion Western Carolina Modernization project in 2Q’15, under which coal plants in Asheville will be soon retire and will be replaced with a new 650MW combined gas plant. Moreover, the project will positively affect the company’s performance, as the electricity generated from the combined gas plant will be 35% less expensive than traditional coal plants. I believe that all of the abovementioned investments by DUK for the expansion of gas operations will serve as an important source of generating strong and stable revenues and cash flows in the years ahead. Furthermore, the company has given an update on its plan to excavate coal ash basins in North Carolina in the 2Q’15 earnings conference call; according to the announcement, 12 additional coal ash basins will be removed in North Carolina, which brings the total number of ash basins to be removed to 24. DUK’s management has estimated that additional cost to close these basins will remain in a range of $700 million to $1 billion; however, the timing for incurring this cost has not been announced yet, which perhaps the company’s management will announce in 3Q’15. I recommend investors to wait for the upcoming call to get a clear picture on this issue. Investors Remain rewarded at DUK The company has a promising history of making regular cash returns to its shareholders. As a matter of fact, DUK’s wider regulated asset base helps the company generate stable cash flows. The company recently raised its quarterly dividend by 3.8% to $3.30 share and the stock currently offers a dividend yield of 4.60% , well above the industry average of 4%. I believe that the company will continue to increase its dividends at a healthy pace, which will portend well for the stock price. Given the strength of DUK’s strategic growth investments, analysts are also expecting consistent growth in the company’s book value per share and cash flow per share, in 2016 and 2017, as shown in the chart below. (click to enlarge) Source: 4-Traders.com Price Target I have calculated a price target of $76 for DUK, using dividend discounting method. In my price target calculation, I have used cost of equity of 7.3% and nominal growth rate of 4%. Based on the target price, the stock offers a potential price appreciation of 8%.   2015 2016 2017 Terminal Value DPS (In-$) 2.91 3.01 3.52 84.2 Present Value Of DPS (In-$) 2.7 2.6 2.85 68 Source: Equity Watch Calculations & Estimates Total present value of DPS = Price Target = $2.7 + $2.6 + $2.85 + 68 = $76/share Risks The company continues to face the risk of changes in regulatory restrictions. Also, the challenging Brazilian business environment remains an overhang on DUK’s earnings growth potentials due to the company’s international business operations. In addition, any laxness exhibited by the company’s management during the execution of its strategic growth plan will result in failure to grow sales as expected. Furthermore, unforeseen negative economic changes, foreign currency headwinds and growing carbon dioxide emission-related charges are key risks that might hamper DUK’s future stock price performance. Conclusion I reaffirm my bullish stance on DUK; the company has accelerated its efforts to get a large regulated asset base in order to secure its long-term growth. In this regard, DUK is investing heavily in its solar and gas-run operations, which portrays a positive picture of the company’s future sales, cash flows and earnings growth. Given the strong growth potentials, I believe the company’s future cash flows will improve, which will back its dividend growth. Also, analysts have projected a healthy next five-years earnings growth rate of 4.67% for DUK, as shown in the chart below. (click to enlarge) Source: Nasdaq.com Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.