The alternative alternative ETF
Andrew Beer is founder of Beachhead Capital Management, a USD500 million firm that runs the Dynamic Beta Strategy that seeks to match or outperform hedge funds using ETFs.
The Dynamic Beta Strategy has USD125 million under management and dates back to 2012. Beer’s original strategy, launched in 2007, was based on futures. “In 2012 we thought there was an opportunity for US high net worth investors who are sensitive to tax issues to create a product using long ETFs. We wanted to create a product that could match or outperform their long/short hedge fund portfolio but only in long ETFs,” Beer explains.
“We have found that across the industry advisers are becoming more aware and sensitive to fees in their portfolio and there are a number of investment platforms that market themselves as being able to provide exclusive ETFs across a broad range of asset classes. We want to be the alternative allocation for those platforms.”
Increasingly smart beta ETFs seem to be replicating hedge fund strategies but Beer says: “Most of the smart beta products I would not characterise as hedge fund products. Hedge funds make most of their money by determining where opportunities are across markets. We seek to capture that through low cost ETFs, while most smart beta ETFs focus on a narrow segment of a particular equity market. Sometimes that is attractive but often you don’t want to own it.”
Beer sources information on hedge fund trading through studying returns of hedge funds. “That gives us a good indication of what they are invested in today and we complement that with qualitative and anecdotal research understanding how hedge funds are investing and through investor letters and prime brokerage reports.”
The system works best with equity long/short hedge funds, and from July 2012 to July 2016 the performance has annualised at 6.88 per cent against the HFR equity hedge index return of 2.73 per cent. The Sharpe Ratio is 1.03, maximum drawdown is -6.68 per cent, while HFR’s stands at -10.84 per cent and the MSCI at -11.96 per cent.
A new product on the blocks at the moment is based on managed futures, replicating a managed futures fund using financial, commodity and some stock ETFs.
“Our average cost for the ETFs is below 25 bps and we specifically gravitate to ETFs which are very large, very liquid and low cost,” Beers says. This means no inverse, leveraged or other more exotic ETFs such as illiquid loans. “We are concerned about a structural break in the market that would cause those ETFs to become illiquid,” Beer says.
The core equity hedge product is based on ETFs based on iShares and a few from First Trust.
“With the managed futures version, we will short ETFs through the normal route but not buy inverse versions,” Beer says.
Post 2008, in a low interest rate environment it has become clear that one of the things that had supported CTA returns was the short term interest rate as many CTAs were sitting in cash. However, Beer is convinced of the benefits of CTA investment.
“In a world where correlations of many assets that had provided diversification to equities has gone up, then CTAs have consistently had low correlation to the equity markets.”
The firm has also managed a managed futures based product for SEI Investments in a UCITS fund and that portfolio has outperformed CTAs since inception.
Explaining his strategies, Beer says: “We don’t have illiquidity risk – replication strategies don’t get caught up with that; there is no risk of position crowding as you see with hedge funds, which has contributed to our performance; our fees are lower and there is predictability of returns.”
It’s been a slow sell to institutional investors. “We have been very vocal screaming into the wind,” Beer says, “and over the last year we have reached a tipping point where institutional investors and consultants have realised that they need to find an alternative investment. Our area has a long track record and we outperform with low fees, performance and transparency.”