The ‘Problem’ with Liquid Alternatives – in one nice Table

Adding ‘alternatives’ to your portfolio has never been as easy as today with the plethora of so called ‘liquid alternatives’, or mutual funds specializing in alternative investments such as managed futures. And the marketers have never had such an easy time separating the naive from their money in their bids to raise money for these funds.

Enter an old five-pager by the Principal Group we just dug up which explains how to utilize 15 different hedge fund strategies in portfolio construction. It has all you would ever need to know about these highly complex investments, dedicating 4 to 6 sentences to each one! (are you picking up the sarcasm) For example, thinking about managed futures in your portfolio, here’s all you need to know:

 • Intended Effect on Portfolio =  Diversifier

 Definition = Commodity Trading Advisors (CTAs) trading commodity, currency, and financial futures typically using trend-following models and sometimes fundamental economic analysis.

• Expect to work best when = Should perform well in adverse market conditions for stocks and bonds.

• Expect to work worst when = Generally performs worst in markets that are directionless and have no lasting trends.

• Outlook = Positive outlook – Macroeconomics are dominating capital flows and valuations, which should provide good opportunities to these managers.

• Tracking Index = The HFRI Macro: Systematic Diversified Index includes strategies that have investment processes typically as a function of  mathematical, algorithmic, and technical models, with little or no influence of individuals over the portfolio positioning.

That’s all you need to know? So much for the Chartered Alternative Investment Analyst designation or decades of experience with the asset class. Just grab the nifty cheat sheet here and start building portfolios. Sure, there are some managed futures mutual funds which don’t even invest in managed futures. Yes, there are some which employ strategies that should not perform well in a crisis – but you understand the basics, and the funds say ‘managed futures’ on the label… what could go wrong?

What could go wrong indeed – how about mismatched performance with investor expectations, high fees,  poor relative performance to benchmarks, a concentration in the largest managers which deal mainly in financials, counterparty risk, credit risk, and the propensity of the correlations and relationships listed all blowing up during a crisis.

I guess we shouldn’t be surprised when FINRA put the responsibility on the investor, not the marketer of these products, to make sure they know what the product is doing. But still… this quick synopsis strikes us as all that is wrong with the mutual fund wrapper for alternatives, just glazing over reams of complexity with easily comprehensible talking points like the following from the piece:

[Alternatives Can…]

Enhance portfolio diversification. When alternative strategies are added to a traditional diversified portfolio of stocks, bonds, and cash, they may help investors achieve broader portfolio diversification as well as potentially create more efficient portfolios due to their expected low, or even negative, correlation with traditional assets.

• Produce consistent returns over time. Combining alternative strategies with traditional portfolios has the potential to generate attractive returns over time through a variety of market conditions.

• Preserve wealth over time. Because alternative investments seek low correlation with traditional assets, they may help to preserve wealth when stocks and bonds are out of favor.

Marketers, take note, this is how you sell a complex idea to unsophisticated investors. Unsophisticated Investors, take note, it’s a lot more complex than this!



  1. Jaeson Dubrovay says:

    For long stretches of time, managed futures funds can indeed turn into mangled futures. They seem to suffer from survivorship bias more than anything I ever seen. David HArdy (Winton) made a presentation once on this that illustrated this very well. If they survive for the next five years, invest in them now…

  2. Ed Cheatham says:

    Your observation is spot on but it’s important to note that last spring, Principal Global Investors (which is Principal’s Investment management division) purchased a 55% stake in Liongate, which is an investment management firm specializing in hedge funds…so they are aware of the need for alternatives. But as far as the retail world is concerned they will not take this space seriously until the events of Man and Peregrine can be guaranteed not to happen. That’s their “problem” with liquid alternatives…plus the fact that Principal Financial Groups’s stock ticker symbol is PFG, didn’t help at all.

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Forex trading, commodity trading, managed futures, and other alternative investments are complex and carry a risk of substantial losses. As such, they are not suitable for all investors.

The entries on this blog are intended to further subscribers understanding, education, and – at times- enjoyment of the world of alternative investments through managed futures, trading systems, and managed forex, and is not intended as investment advice, or an offer or solicitation for the purchase or sale of any financial instrument. Unless distinctly noted otherwise, the data and graphs included herein are intended to be mere examples and exhibits of the topic discussed, are for educational and illustrative purposes only, and do not represent trading in actual accounts. Opinions expressed are that of the author.

*The mention of specific asset class performance (i.e. +3.2%, -4.6%) is based on the noted source index (i.e. Newedge CTA Index, S&P 500 Index, etc.), and investors should take care to understand that any index performance is for the constituents of that index only, and does not represent the entire universe of possible investments within that asset class. And further, that there can be limitations and biases to indices such as survivorship and self reporting biases, and instant history.

The mention of general asset class performance (i.e. managed futures did well, stocks were down, bonds were up) is based on Attain’s direct experience in those asset classes, estimates of performance of dozens of CTAs followed by Attain, and averaging of various indices designed to track said asset classes.

It should be noted that past market performance is not indicative of future market movement.No market data or other information is warranted by Attain Capital Management as to completeness or accuracy, express or implied, and is subject to change without notice.

Managed Futures Disclaimer:

Past Performance is Not Necessarily Indicative of Future Results. The regulations of the CFTC require that prospective clients of a managed futures program (CTA) receive a disclosure document when they are solicited to enter into an agreement whereby the CTA will direct or guide the client’s commodity interest trading and that certain risk factors be highlighted. The disclosure document contains a complete description of the principal risk factors and each fee to be charged to your account by the CTA.