Tag Archives: stocks

ALFA Underwhelms As Hedge Fund Darlings Crater Plus An Untimely Hedge

Summary ALFA’s hedge was triggered for the first time at the start of last September. Unfortunately, ALFA’s recent performance has been uninspiring. This analysis reveals two likely reasons for ALFA’s underperformance since the hedge was activated. In my Aug. 31, 2015 article entitled ” ALFA: A Market-Beating ETF About To Go Market-Neutral ” I reported that the AlphaClone Alternative Alpha ETF (NYSEARCA: ALFA ) was about to go market-neutral for the first time since its inception due to the S&P 500 closing below its 200-day moving average at month-end. I also commented on the fact that ALFA has had significant wire-to-wire outperformance vis-a-vis the SPDR S&P 500 Trust ETF ( SPY) since inception (see chart below), suggesting that investors in ALFA benefited from being able to “invest with the best.” Recall that ALFA uses a proprietary “Clone Score” methodology in order to aggregate the ideas of hedge funds which have strong historical performance. Alas, ALFA can no longer lay claim to this achievement. Its total return performance since inception now trails SPY by some 15% (55% vs. 70%). ALFA Total Return Price data by YCharts Zooming up to the time frame since the hedge was triggered at the start of September (it was actually activated at the market close on Sep. 2nd) reveals that most of the relative underperformance occurred over the last month. ALFA Total Return Price data by YCharts Reconstructing ALFA’s return without the hedge Recall that when the hedge is triggered (caused by the S&P 500 closing below its 200-day moving average at month-end), ALFA shorts the S&P 500 in an amount equal to the notional value of its long holdings. In other words, ALFA becomes market-neutral. Obviously, given that SPY has (as of last week) reclaimed its 200-day moving average in a brief span of two months, the hedge appears to be ill-timed. Nevertheless, investors in ALFA must be prepared to accept the fact that this hedging strategy will likely underperform in whipsaw situations, such as what was observed over the past two months, as part of the cost of protecting oneself from the worst of bear markets. I wanted to see whether the severe underperformance of ALFA was due to the hedge being triggered, or something else. Therefore, I reconstructed the total return of ALFA since the start of September to visualize what the return profile of ALFA would have been if the hedge had not been activated. We can see from the chart above that had the hedge not been activated, the hypothetical 100% long ALFA (denoted ALFA-L in the graph above) would have returned -1.95% since Sep. 1st, compared to -8.14% for the actual ALFA. While this alleviates the underperformance a bit, it is still far below that of SPY at 8.69%. So what can the rest of ALFA’s underperformance be attributed to? Hedge fund darlings crater In my previous article, I compared the top 10 holdings of 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 How have the top 10 stocks of ALFA fared over the past two months? Answer: not pretty. AAPL Total Return Price data by YCharts As can be seen from the graph above, only 2 of ALFA’s top 10 holdings at the start of September, PCLN (+12.44%) and AAPL (+10.55%), have outperformed SPY. There are three massive losers: SKX (-30.5%), HZNP (-41.2%) and VRX (-48.2%). Assuming that the weightings of those three stocks did not change over this time period, they would have contributed a total of -6.24% to the total return of ALFA over this time period. That actually accounts for over half the entire difference between the hypothetical unhedged ALFA-L (-1.95%) and SPY (8.69%) during this time! Now, I am aware that ALFA’s holdings are not static, and hence the above calculation is merely an estimate. Nevertheless, it is clear that ALFA has been hit by a “doubly-whammy” of an untimely hedge, plus the underperformance of hedge fund darlings such as Valeant Pharmaceuticals (see this comically-timed Forbes article ” Hedge Fund Superstars Stocking Up On Valeant Pharmaceuticals ” that was published the day before VRX’s price came crashing down). This illustrates an important fact: even the best and brightest in the industry can sometimes get it (very) wrong. Due to ALFA’s heavy concentration in tech and biotech, one might say that SPY is not an appropriate benchmark for ALFA. The following chart therefore also shows the total return of the PowerShares QQQ Trust ETF (NASDAQ: QQQ ) and the iShares Nasdaq Biotechnology ETF (NASDAQ: IBB ) since the start of September, as well that of another hedge fund-following ETF, the Global X Guru Index ETF (NYSEARCA: GURU ). Unfortunately, ALFA still lags the other four ETFs, although the hypothetical ALFA-L (-1.95%) would have outperformed IBB (-5.12%) and closely trail GURU (-0.37%). ALFA Total Return Price data by YCharts Summary The last two months has not been kind to ALFA holders. Not only was the timing of the hedge unfortunate, but a number of the fund’s largest holdings have suffered tremendously, particularly VRX and HZNP, whose pricing practices have come under intense scrutiny. Will ALFA rebound in the future? I don’t know. As of today, VRX and HZNP are still two of ALFA’s top 10 holdings, at 3.30% and 2.00% weights, respectively, suggesting that ALFA’s future performance may still be somewhat tethered to the fates of those two specialty pharmaceutical companies. Moreover, note that while ALFA is currently in market-neutral mode, this will change if the S&P 500 manages to remain above its 200-day moving average for one more week, as the end of the month is near.

FXIFX Is Proof That Fidelity Can Offer A Great Target Date Fund

Summary Fidelity has at least two target date funds for the same date. FFFEX offers investors a high expense ratio and a complicated batch of underlying holdings. FXIFX offers investors almost everything they could ask for in a target date fund. The ratio of domestic equity to international equity allocation is great. The fund is moving into inflation-protected bonds slightly sooner than I would, but the underlying fund is a good choice. Fidelity has multiple options for target date funds. A reader recently suggested I check out the Fidelity Freedom® Index 2030 Fund (MUTF: FXIFX ). The suggestion came after I looked into the Fidelity Freedom® 2030 Fund (MUTF: FFFEX ). The only difference in the names of the two funds is that one uses the word “Index”, but the difference between the funds is notable. Expense Ratios FXIFX has an expense ratio of only .16% on the net level and .24% on the gross level. The net expense ratio is very competitive with target date funds for Vanguard. Investors can replicate the portfolio with a lower expense ratio by manually managing their portfolio to the same allocations, but the difference in expense ratios between FXIFX and using individual allocations to the underlying funds is very reasonable for investors that don’t want to manage the portfolio themselves on a consistent basis. On the other hand, FFFEX had an expense ratio of .74% and appeared stuffed with actively managed funds that should be substantially more profitable for the sponsor. The annoying thing, in my opinion, is that some investors will find that their employer offers FFFEX but does not offer FXIFX. That is unfortunate because I think the lower expense ratio fund will win out over the longer term. I don’t believe the actively managed portfolios will be able to beat their passive counterparts by enough to overcome the difference in expense ratios. Allocations The allocations for FXIFX are quite solid. Take a look at the holdings below: The first thing to notice is that this list is fairly short. I like to see simple allocations in target date funds. A few underlying funds with low expense ratios and fairly passive strategies make for great holdings. Ideally those holdings should be rebalanced fairly frequently for a target date fund to take advantage of movements in the market price of the underlying holdings. Domestic to International The domestic allocation is about 2.25 times the international equity allocation. I like that allocation strategy. Some funds would go slightly heavier on the international equity allocation, but I find a ratio of 2.5 to 1 ratio is pretty much perfect and even going as heavy as 2.2 to 1 would be reasonable. This fund falls within that desirable range. There is plenty of international exposure to benefit from the diversification without betting heavily on international funds outperforming domestic equity. Inflation-Protected Bond Funds I see a good reason for including inflation protected bonds, but I wouldn’t mind seeing this remain fairly low for another five years since this fund is aiming for 2030. At less than 1%, this isn’t a meaningful allocation yet. The underlying allocation is the Fidelity® Series Inflation-Protected Bond Index Fund (MUTF: FFIPX ) which has an expense ratio of only .05%. I like the expense ratio; I’m just not big on inflation-protected bonds in the current macroeconomic environment for anyone that is still working. For a retiree, it is certainly understandable to keep a chunk of their portfolio in these securities for dealing with living expenses over the next 12 to 24 months. Personally, I prefer paying for most living expenses with interest income from corporate bonds (currently too weak) or dividend income from established champions. How About Some REITs? I’d love to see a small allocation to domestic equity REITs in the portfolio. Perhaps I’m biased as a REIT analyst, but I like domestic equity REITs as an allocation for a mutual fund that I would expect to only be held in tax advantaged accounts. The biggest drawback over the long term to investing in equity REITs is the potential for paying high levels of personal income taxes on the dividends. If the allocation is going to be within a tax advantaged account, then the income should bypass that difficulty. Of course, I don’t provide tax advice. Future Allocations The following chart shows the planned allocation over the next few decades: This is a great allocation strategy for a target date fund. The investor planning on a very long retirement will probably want to supplement this portfolio with some dividend growth investing to have a growing stream of income from high quality companies. In my view, investors shouldn’t plan to just hold the target date fund and assume that they are done investing. This is not the start and the end of retirement planning, but it is one reasonable piece to include inside the portfolio. Conclusion FXIFX is delivering on the most important metrics I want to see in a target date fund. It offers a low expense ratio, a simple allocation, and a very intelligent ratio of domestic equity to international equity. The only weaknesses I see are extremely minor issues compared to everything Fidelity got right in this fund. For any investors trying to pick between FXIFX and FFFEX, I see a clear winner. FXIFX looks like it should be able to win out over a very long time horizon.