A Kinder, Gentler Alternative
These mutual funds pursue hedge fund-like strategies.
By David Landis, Contributing Editor
From Kiplinger's Personal Finance magazine, March 2005
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Many mutual funds pursue hedge fund-like strategies but do so without the outlandish fees and onerous conditions. The most popular strategy involves buying and holding stocks and selling them short (a bet on lower prices) as opportunities arise. Some, such as Bill Miller's Legg Mason Opportunity Trust (symbol LMOPX; 800-822-5544), also own bonds and private partnerships. The fund returned an annualized 10% for the five years ending last December (versus -2% for Standard &Poor's 500-stock index), but that includes a loss of 16% in 2002 (the S&P plunged 22% that year). Leuthold Core Investment (LCORX; 800-273-6886) may do better if the markets stumble. Manager Steven Leuthold shifts assets among stocks, bonds, cash and even commodities, depending on his outlook. Recently, he was long on stocks, emerging-market funds and metals, and short on Treasury bonds. The fund gained 11% annualized over the past five years, a figure that includes a 10% loss in 2002.
Hussman Strategic Growth (HSGFX; 800-487-7626) is a more conservative variation on the long-short theme. Manager John Hussman will use options to hedge some or all of his stock exposure during bad times and magnify stock returns during good times. The fund, which was launched in mid 2000, had double-digit gains in its first full three years and gained 5% last year. Its returns are almost totally unrelated to those of the S&P 500.
Market-neutral funds employ still another variation on the long-short approach. These funds try to keep their long and short bets evenly apportioned. The idea is to remove the performance of the overall market from the equation and allow the fund managers' skill in picking winners (which they want to own) and losers (which they want to sell short) to produce superior returns. Laudus Rosenberg Value Long/Short Equity (BRMIX; 800-447-3332), one of the oldest market-neutral funds, tends to lag in bull markets. In 2003, it lost 7%, and it eked out a 2% gain last year. But the fund returned a smashing 28% in 2002.
Commodities funds are another good route to diversification, and they also offer inflation protection. Pimco CommodityRealReturn Strategy (PCRDX; 800-426-0107) uses options and futures to mimic the return of the Dow Jones-AIG Commodity index. Energy accounts for a third of the index, and the rest is divided among livestock, grains, metals, sugar, cotton and coffee. The fund gained 29% in 2003 and another 16% in '04, two very good years for commodities.
Finally, mutual funds that specialize in merger arbitrage have been successful in generating good returns with low risk. The oldest fund of this type -- Merger fund -- is closed to new customers. However, Arbitrage fund recently reopened to new investors.