Non-Traditional Mutual Funds - Merrill
Non-Traditional Mutual FundsGWM Investment Management & GuidanceJULY 2014For more than 20 years, alternative investments have become a part of the lexicon of the general investingpublic. They appear frequently in The Wall Street Journal and other financial publications and make up asignificant portion of the endowments of prominent universities such as Yale and Harvard.1 The discussion ofalternatives has typically been confined to hedge funds, private equity, real estate and real assets such as gold.In the last several years, however, hedge fund-like strategies and other alternative investments have becomemuch more available in mutual fund and exchange-traded fund (ETF) structures.In this paper, GWM Investment Management & Guidance (IMG) seeks to help Financial Advisors and theirclients make informed decisions and prudent investment choices in a relatively new investment strategy. Wewill attempt to:nHighlight the portfolio benefits of using alternative investments.nExplain the growth of the non-traditional mutual fund (NTMF) market.nDescribe what non-traditional mutual funds are and what they are not.nExplain the use of NTMFs in a portfolio and the value of fund selection.Portfolio Benefits of Using AlternativeInvestmentsInvestors have traditionally sought capital growth and currentincome through an appropriate mix of stocks and bonds. Theseinvestments have typically been long only and used no leverageor derivatives. The exposure in these portfolios is essentially tothe market. Active management and successful stock-pickingcan mitigate this traditional dependence on the market, but onlyto a degree. If the markets go up, the portfolio will go up, moreor less; likewise, if they go down the portfolio will go down.Alternative investments are, simply put, alternatives totraditional, long-only stock and bond investing. A specific,1accepted definition of alternatives is difficult to come by,but consensus generally divides alternative investments intotwo different segments—alternative assets and alternativestrategies. Alternative assets include gold, other physicalcommodities and real assets, real estate and similar assetclasses. Alternative strategies are those generally associatedwith hedge funds and private equity funds and include sellingsecurities short, using leverage and derivatives, concentratingin a small number of securities and using illiquid or privateinvestments. Both of these groups of alternatives behavedifferently than traditional investments, providing the potentialfor diversification, and that is ultimately their appeal. MoreAccording to Russell Investments’ 2012 Global Survey on Alternative Investing, institutional investors are making significant allocations to alternatives (on average 22% of totalassets). Importantly, up to one-third of respondents are expecting to increase their allocations to alternatives over the next one to three years.This material was prepared by the Investment Management & Guidance Group (IMG) and is not a publication of BofA Merrill Lynch Global Research. The views expressed are those of IMGonly and are subject to change. This information should not be construed as investment advice. It is presented for information purposes only and is not intended to be either a specificoffer by any Merrill Lynch entity to sell or provide, or a specific invitation for a consumer to apply for, any particular retail financial product or service that may be available. Merrill Lynchmakes available products and services offered by Merrill Lynch, Pierce, Fenner & Smith Incorporated (MLPF&S) and other subsidiaries of Bank of America Corporation.Investment products:Are Not FDIC InsuredAre Not Bank GuaranteedMay Lose ValueMLPF&S is a registered broker-dealer, Member SIPC and a wholly owned subsidiary of Bank of America Corporation. 2014 Bank of America Corporation. All rights reserved.
Diversification is the core tenet of modern portfolio theory. Thebasic concept is that combining different return streams that arenot perfectly correlated to each other will lead to a more efficientportfolio. This is a portfolio that can provide the same returns forless risk or greater returns for the same risk as an undiversifiedportfolio. Therefore, if an investor were to add diversifyingalternative strategies to traditional investments, the portfolioshould require less risk to generate each unit of return, as Exhibit1 demonstrates, using a hedge fund index as an example.ReturnAnnual Compounded Return9.0%8.0%67% Bonds23% Equities10% HFs7.5%7.0%90% Bonds10% HFs6.5%6.0%45% Bonds45% Equities10% HFs75% Bonds25% Equities23% Bonds67% Equities10% HFs50% Bonds50% Equities100% Equities100% ed VolatilitySource: Hedge Fund Research. Data from Jan. 1994 - Dec 2013Past performance is not indicative of future results. For illustrative purposesonly. The 10% allocation is for indicative purposes only, not a recommendedallocation level.220-Year Cumulative Return with 10% Average Annual Returnsvs. Levels of 10%20%30%Volatility of Annual ReturnsFor illustrative purposes only.Source: Carlson Capital.The Growth of the NTMF Market90% Equities10% HFs25% Bonds75% EquitiesExhibit 2: Volatility Matters: The Symmetry ofCompoundingThere are a number of different sources of alternative returns andan increasing breadth of ways to invest in hedge fund strategies.Exhibit 1*: Risk / Return – Jan 94 - Dec 138.5%Reduced volatility by definition provides more certain outcomes.It should also lead to smaller drawdowns and more effectivecompounding of wealth (see Exhibit 2).20-Year Cumulative Returnspecifically, hedge funds employ strategies ranging from simplypicking stocks both long and short in a hedged portfolio to verysophisticated, model-driven derivatives investments. Thesestrategies purport to control risk and emphasize return. Whilethis is an attractive proposition, the true value of hedge fundstrategies lies in their contribution to a traditional portfolio.Over a market cycle, these strategies do not act like traditional,long-only investments. Their returns are differentiated and sothey can enhance the potential for diversification.For years, client portfolios consisted primarily of stocks andbonds. Diversification was achieved chiefly through durationor sector, market capitalization and geographic allocations.After the financial crisis of 2008, and the recession and marketvolatility that followed, many investors began to re-examinetheir investment approach. A number of investors in traditionalasset classes were dissatisfied with their experience in 2008and began looking for ways to protect their portfolios from suchextreme market volatility. Long-only equity strategies fell outof favor: 234 billion was redeemed from equity mutual fundsin 2009 alone.2 While hedge funds as a group outperformedMorningstar* Source: IMG Investment Analytics. Based on pro-forma quarterly data with semi-annual rebalancing from Jan. 1994 to Dec. 2013. Asset allocation does not assure a profit or protectagainst a loss in declining markets. Results shown are based on indexes and are illustrative; they assume reinvestment of income, no transaction costs or taxes, and that the allocationfor each model remained consistent. Past performance is no guarantee of future results. The “efficient frontier” tracks the relationship of rate of return and performance volatility (asmeasured by standard deviation). While performance volatility is one widely-accepted indicator of risk in traditional investment strategies, in the case of alternative investment strategies,performance volatility is an indicator of only one dimension of the risk to which these actively-managed, skill-based strategies are subject. There is a “risk of ruin” in these strategies whichhas historically had a material effect on long-term performance but which is not reflected in performance volatility. From time to time, extremely low volatility alternative investments haveincurred sudden and material losses. Consequently, any comparison of the “efficient frontiers” of traditional and alternative investments is inherently limited.Index sources: Equities: Standard & Poor‘s 500 Total Return; Bonds: BarCap US Aggregate TR; Hedge Funds: Dow Jones/Credit Suisse Hedge Fund. Direct investment cannot be madein an index. The hedge fund indices shown are provided for illustrative purposes only. They do not represent benchmarks or proxies for the return of any particular investable hedge fundproduct. The hedge fund universe from which the components of the indices are selected is based on funds which have continued to report results for a minimum period of time. Thisprerequisite for fund selection interjects a significant element of “survivor bias” into the reported levels of the indices, as generally only successful funds will continue to report for therequired period, so that the funds from which the statistical analysis or the performance of the indices to date is derived necessarily tend to have been successful. There can, however,be no assurance that such funds will continue to be successful in the future. Merrill Lynch assumes no responsibility for any of the foregoing performance information, which has beenprovided by the index sponsor. Neither Merrill Lynch nor the index sponsor can verify the validity or accuracy of the self-reported returns of the managers used to calculate the indexreturns. Merrill Lynch does not guarantee the accuracy of the index returns and does not recommend any investment or other decision based on the results presented.Non-Traditional Mutual Funds2
Comparing NTMFs and Hedge Fundsthe equity indices during this period, many still experiencedsubstantial losses and their sophisticated investors sufferedtheir own form of disappointment. Many hedge fund investorswere subjected to gating, side-pocketing of illiquid securities3or outright suspension of redemptions. In some cases, theseliquidity impairments were a surprise to investors who did nothave transparency to the underlying holdings, or otherwisehad not focused on the broad flexibility hedge fund managershave in the event of severe market conditions. The lack ofdependability around investors’ redemption rights exacerbatedthe perception of an absence of uniformity in hedge fundstructures and terms.Non-Traditional Mutual Funds generally are mutual funds thatpursue alternative strategies, subject to the limitations of theInvestment Company Act Of 1940 (40 Act). They are a liquid,more highly regulated way to access strategies more commonlyfound in hedge funds. That said, NTMFs involve trade-offs.In fact, because of their liquid, regulated nature, NTMFs maynot be able to take full advantage of some of hedge funds’sources of return—leverage (for short selling as well asbuying securities long), illiquid securities and security levelconcentration. Funds registered under the 40 Act are subjectto a range of asset coverage rules, depending on the types ofsecurities used, which limit their use of leverage.Post 2008, traditional investors began to look for ways todiversify their portfolios and reduce their dependence onthe market directionality. At the same time, hedge fundinvestors began to express a stronger appetite for improvedtransparency, liquidity and structural uniformity. The result ofthese frustrations in both traditional and alternative strategieshas led to a convergence of demand for liquid, more highlyregulated alternatives broadly and non-traditional mutual fundsin particular.As an example, an equity-only NTMF cannot be more than 200long and 100 short for every 100 of capital; equity marketneutral hedge funds, meanwhile, sometimes have as muchas 300 long and 300 short or more for the same 100 ofcapital. In addition to the logistical challenge of handling dailycash flows in and out, NTMFs must comply with liquidity rules inthe 40 Act. These rules require the funds to have no more than15% of their capital in illiquid securities, which are defined assecurities that would take more than seven days to sell withoutmeaningfully impacting their value. Hedge funds by contrasthave no such limitations. In fact, many will invest in instrumentsthat could easily take months or years to liquidate.As seen in Exhibit 3, assets in mutual funds categorized byMorningstar as alternative have grown nine-fold between 2005and the end of 2013. Moreover, alternative assets as a portionof the mutual fund universe, have risen from 0.5% in 2005 to2.4% in late 2013.Finally, there are a number of rules pertaining to diversificationExhibit 3: Alternative Mutual Fund Net FlowsBear MarketTrading-Inverse -Inverse DebtMarket NeutralTrading-Leveraged EquityTrading-Inverse CommoditiesManaged FuturesTrading-Leveraged DebtNon-Traditional BondLong/Short EquityTrading-Leveraged CommoditiesMulticurrency300,000250,000 07200820092010201120122013Source: Morningstar.3A type of account used in hedge funds to separate illiquid assets from other more liquid investments. Once an investment enters a side pocket account, only the presentparticipants in the hedge fund will be entitled to a share of it. Future investors will not receive a share of the proceeds in the event the asset’s returns get realized.Non-Traditional Mutual Funds3
of fund assets, again, based on the types of securities used.For instance, for at least 75% of a fund’s assets, the securitiesof an issuer held by the fund cannot be more than 10% of theoutstanding voting stock of the issuer or more than 5% of thefund’s total assets. Once again, hedge funds face no similarrestrictions and there are those that invest substantially allof their assets in a very select few ideas. With a view towardthis point, a 2009 study of hedged mutual funds concludedthat hedge funds outperformed hedged mutual funds and thathedged mutual funds outperformed traditional mutual fundsover a 10-year period.4 One of the central observations of thestudy was that the different degrees of freedom permitted theportfolio manager in each structure was a material driver of thereturn differential between heavily constrained traditional mutualfunds, less constrained NTMFs and unconstrained hedge funds.In Exhibit 4, we compare NTMFs with traditional mutual fundsand hedge funds across a number of variables. Specifically,the table summarizes the differences in investment mandates,structural considerations and regulatory constraintsencountered in these three different investment vehicles.The primary differentiating characteristics can be summarized asfollows: NTMFs have much of the flexibility of mandate enjoyedby hedge funds, with the structural conveniences of mutual funds.It is worth noting again, however, that the regulatory constraintsmay impact NTMFs’ return potential, particularly as they restrictthe use of leverage (long and short), illiquidity and security levelconcentration, three meaningful sources of potential hedge fundExhibit 4: Typical Comparison of Traditional Hedge Funds and Non-Traditional Mutual FundsAlternative InvestmentsTraditionalMutual latoryConstraintsNon-TraditionalMutual FundsHedge FundsInvestment StyleTypically Long-OnlyTypically Opportunistic andFlexibleTypically Opportunistic andFlexibleReturn ObjectiveReturns Relative to a BenchmarkAbsolute ReturnsAbsolute ReturnsLeverage UseTypically do not use leverageTypically use some leverageMay use substantial leverageDerivatives UseLimited use of derivativesFrequent use of derivativesdepending on strategyFrequent use of derivativesdepending on strategyLiquidity of InvestmentsGenerally invest in highly liquidsecuritiesGenerally invest in highly liquidsecuritiesPortfolios may contain privatesecurities or other illiquidinvestmentsRedemptionsDaily LiquidityDaily LiquidityBased on individual fund terms(early redemption fees may apply) (early redemption fees may apply) (monthly, quarterly, yearly).Suspension of redemptions /gating possibleTransparencyHoldings available at leastquarterlyHoldings available at leastquarterlyHoldings available at themanager’s discretionTax Reporting Mechanism10991099Typically K-1FeesManagement Fees*Management Fees*Combination of Management andIncentive Fees*Investment Min./ QualificationsLow Minimums, No QualificationRestrictionsLow Minimums, No QualificationRestrictionsHigh Minimums and QualificationRestrictionsLeverageRequire a 300% Asset CoverageRatio and/or segregation ofassetsRequire a 300% Asset CoverageRatio and/or segregation ofassetsSome regulatory limits butmanagers may use substantialleverage depending on strategyLiquidity of InvestmentsNo more than 15% of total assets No more than 15% of total assets Managers may use privatein illiquid securitiesin illiquid securitiessecurities and other illiquidinvestmentsDiversificationMinimum diversificationrequirements(e.g. limitations on position size,sector exposure etc)Minimum diversificationrequirements(e.g. limitations on position size,sector exposure etc)No pre-set diversificationrequirements* Under 1940 Act and Internal Revenue Code, both mutual funds and hedge funds are subject to other fees and expenses. Generally, mutual funds don‘t charge performance fees.4Agarwal, Boyson and Naik, Journal of Financial and Quantitative Analysis. Data as of April 2009.Non-Traditional Mutual Funds4
outperformance. Given the combination of traditional structuresand flexible investment styles, it is not surprising that there isno broadly accepted definition of NTMFs. Each data vendor andmutual fund firm has applied their own criteria to the area. Forexample, Morningstar has gone from one category of alternativemutual funds (Bear Market) with 23 funds in 2004 to seven(Multialternative, Long/Short Equity, Nontraditional Bond, BearMarket, Market Neutral, Managed Futures and Multicurrency) with453 funds. It is fair to expect that these will continue to evolveand expand over time. There is also relatively little data availableto analyze this space. There are no widely accepted indices andmany of the funds in this space have short track records.The Morningstar alternative mutual fund categories provide astrong starting point for defining the available pool of NTMFs.However, one could expand the universe beyond these toinclude certain managers from other categories such as WorldAllocation. Mutual funds to consider would be those with certaincharacteristics that may include one or more of the following: Flexibility of asset class allocations.nnAbility to take short positions, and evidence of use.nAbility to use derivatives and/or leverage, and evidence of use. Relatively significant investments in non-traditional assetnclasses such as commodities and/or currencies. Statistics that support a non-traditional profile, such asnrelatively low maximum drawdowns and/or relatively lowcorrelations or betas with respect to traditional indices. Intent to provide a non-traditional return profile as indicated,nfor example, by an absolute return objective withoutadherence to a benchmark.These funds are usefully comparable to hedge fund strategies,and from an analytical perspective, it is helpful to group theminto the same broad strategy buckets as hedge funds. Exhibit5 highlights each of the core hedge fund strategies and theways in which they may behave in a portfolio. It is importantto note that each of these strategies has a different set of riskexposures and primary return drivers.Exhibit 5Credit-Oriented AI Strategies—Seek stability and consistency of returnsCredit Long / ShortCredit Long/Short strategies use an investment process designed to isolate attractive opportunities (on the long side) and deterioratingsituations (on the short side) in fixed income securities; these include both senior and subordinated claims, bank debt and may alsoinclude exposure to government, sov
of the mutual fund universe, have risen from 0.5% in 2005 to 2.4% in late 2013. Comparing NTMFs and Hedge Funds Non-Traditional Mutual Funds generally are mutual funds that pursue alternative strategies, subject to the limitations of the more highly regulated way
Mutual funds became popular in the United States in the 1920s and continue to be popular since the 1930s, especially open-end mutual funds. Mutual funds experienced a period of tremendous growth after World War II, especially in the 1980s and 1990s. LIC established its mutual fund in June 1989 while GIC had set up its mutual fund in December 1990.
Alfred Lambremont Webre III 3 mutual friends Adam Wiederholtz 5 mutual friends Michael's Wave 1 mutual friend Julie Castonguay 1 mutual friend Joseph Marie Buzzé 2 mutual friends Bob Challenger 1 mutual friend Joseph Irving 3 mutual friends Lorenzo Segarra 3 mutual friends Danny Wright 8 mut
No-Load No Transaction Fee Mutual Funds 1 Effective as of December 5, 2011 The following list contains No-Load No Transaction fee mutual funds as of 12/5/2011. You should consider the investment objectives, risks, charges and expenses of a mutual fund carefully before investing. AH Lisanti Capital Growth Domestic Fund Name Security Symbol
No-Load Transaction Fee Mutual Funds 1 Effective as of December 5, 2011 The following list contains No-Load mutual funds that will be charged a transaction fee of 39.95 effective 12/5/2011. You should consider the investment objectives, risks, charges and expenses of a mutual fund carefully before investing.
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HSBC Mutual Funds and HSBC Pooled Funds Annual Information Form November 12, 2021 HSBC Mutual Funds Cash and Money Market Funds1 HSBC Canadian Money Market Fund HSBC U.S. Dollar Money Market Fund Income Funds HSBC Mortgage Fund1 HSBC Canadian Short/Mid Bond Fund1 HSBC Canadian Bond Fund1 HSBC Global Corporate Bond Fund1
companies by 4,906 mutual funds from 458 fund families. The full data matrix of mutual fund votes, composed of funds as rows and proposals as columns, is massive, with 892,651,606 cells. But because most mutual funds own only several hundred portfolio companies, and hence vote on
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