Jerry Verseput, founding principal of Veripax Financial Management in El Dorado Hills, Calif., says he re-evaluated what he was doing after 2008. He cautions against letting one year of market activity dictate strategy going forward, but his research made it clear that traditional asset classes among equities have become increasingly correlated and that the likelihood of interest rate hikes make fixed income an unappealing diversifier.
Verseput says all of his client portfolios contain roughly 10% managed futures, which he likes for their low beta. He also uses energy master limited partnership funds such as the SteelPath MLP Select 40 or SteelPath MLP Income funds; the Collar Fund, which writes a call and buys a put around a long-stock position to cap both the upside and downside of a stock; and the Aston/Lake Partners LASSO Alternatives fund, a long-short fund.
For accredited clients, Verseput's top pick is the Amerifunds Secured Income Fund, which is a private placement fund comprising privately-held mortgage notes. "I view this as the financial equivalent of watching paint dry," he says, adding it has averaged 7% to 8% during the past five years with almost no wiggles. "It's boring, but I'm finding that most of my clients are much more receptive to boring investments than they used to be." Overall, Verseput says, he likes to have about 20% to 40% of a portfolio in something other than straight equities and bonds or bond funds.
'40 Act Funds
The Morningstar/Barron's study found that managed futures were the largest single alternative strategy used by advisors, and that should continue during the next five years. The survey also found that financial advisors use mainly liquid investments--including funds--for their alternative strategies.
According to Morningstar, funds employing alternative strategies have flooded the market in the past five or so years. As of the end of last year, Morningstar counted 450 alternative-style funds-203 mutual funds and 247 exchange-traded funds. In many cases, hedge fund managers decided to democratize their formerly exclusive strategies for wealthy investors by putting them into '40 Act funds.
"Because of the credit crisis, some of the best hedge funds managers--even those who made money during the crisis--lost assets," says Jon Sundt, president of Altegris Investments, a La Jolla, Calif.-based provider of alternative investment platforms for advisors that access top hedge fund managers, managed futures funds and other alternative investments. "So now some of them are saying 'Gee, maybe now I'll consider managing money on the mutual fund side.' We're finding when researching these 5,000 hedge funds that more of them are considering managing money on the '40 Act side. This is a new trend that's good news for advisors."
Sundt is also portfolio manager of the Altegris Managed Futures fund, which he says picks the best managers in the Altegris 40-a cap-weighted index of managed futures programs-and combines them into one fund where each of them manages a portion of the fund. "Historically, you'd have to invest with these managers individually," he says. "They all have high minimums. They're different shops that complement each other."
Sundt says alternative strategies can provide "crisis alpha" in turbulent markets. "Some strategies have done very well during periods of crisis," he says. "Managed futures, global macro and even long-short equity have demonstrated good long-term risk-adjusted performance--especially when you needed them to during long periods when the stock market had negative returns."
But alternative investments require a lot of homework on the part of advisors. "The advice I'd give to advisors is to look under the hood for the quality of the subadvisors who are actually managing the money," Sundt says. "It's really important to get best-of-breed talent."
The same goes for alternatives under the '40 Act umbrella. "Many advisors will go right to Morningstar to find a long-short fund to invest in," Meyer says. "Morningstar has done a good job, but there's a long way to go in this area. Some of those funds aren't true long-short funds, and on top of that, there isn't a lot of history. But this is what we get paid to do, to find these managers who have been managing these types of strategies and who wrapped up these strategies in '40 Act funds."