Getting A Closer Look At The iShares Diversified Alternatives ETF

technical-lookMost analytical outfits, such as Morningstar or Lipper, wait to collect three years of monthly data before declaring a fund or exchange-traded product “seasoned.” Until that point, they won’t publish detailed performance or risk statistics.

I can see their point. Sort of. I mean, three years is enough time to capture some sine wave activity in the market, so you may be able see how the portfolio behaves in up and down cycles.

But why wait three years to give potential investors a clue about the product’s performance?

After all, you can get an inkling of a portfolio’s ability to deliver on its advertised claims by looking at daily data points following the product’s launch.

Take the iShares Diversified Alternatives Trust (NYSE Arca: ALT), the first actively managed product in the BlackRock (né Barclays) line of exchange-traded vehicles. The ALT portfolio, composed of futures and foreign-exchange forward contracts, attempts to profit from the mispricing of financial instruments, capturing assets’ excursions from their so-called fair values or historical norms.

The ALT portfolio is young; there are less than 50 days of market performance data so far, but that’s enough to get an initial reading on the portfolio’s ability to meet its objectives. If Morningstar can make pronouncements based upon 36 data points, we can certainly issue some of our own with 48.

Now, about those objectives. Recall that ALT is an actively managed portfolio. It’s not an index tracker. The product melds several hedge fund plays into an absolute return strategy, which seeks a return uncorrelated to market indexes such as the S&P 500 or the S&P/GSCI. ALT’s managers seek an even keel – an annualized portfolio volatility between 6 and 8 percent, which, if attained, would make the portfolio’s variance a lot smaller than the typical index tracker.

Additionally, ALT’s portfolio runners hope to garner a Sharpe ratio, measured against one-month Treasury bill returns, between 0.50 and 0.75. This coefficient reflects the excess return – positive or negative – earned by an asset per unit of risk undertaken. The higher the Sharpe ratio, the greater the portfolio’s risk-adjusted return. For each percentage point of excess return, for example, the ALT portfolio would be expected to crank out an annualized volatility between 1.33 percent (1%÷ 0.75) and 2 percent (1%÷ 0.50).

Reaching The Objectives

To get to those objectives, ALT’s managers use long/short plays and keep their fingers crossed that market relationships will revert to their historic norms. On a nominal basis, futures make up about two-thirds of the portfolio. ALT’s net short the futures segment now. The balance of the portfolio is made up of currency forwards, which are presently net short the U.S. dollar.

Within the portfolio, a number of component strategies are exploited. Among them are:

  • Yield and Futures Curve Arbitrage Strategies. These trades exploit anticipated shifts in yield curves and futures term structures by buying undervalued instruments while simultaneously selling overvalued interest rate and stock index futures as well as currency forwards.
  • Technical Strategies. Much like the analysis you’ll find in Desktop articles, ALT’s managers look for trends and patterns in interest rate, equity index and currency instruments, which allow them to exploit continuing market momentum or reversals.
  • Fundamental Relative Value Strategies. Using fundamental measures of supply and demand, ALT’s managers seek to identify pricing discrepancies that can be captured by trading long or short positions in various assets.

The ALT portfolio is allocated through a ranking process, in which each potential strategy or asset is ordered in terms of expected return, volatility and trading cost.

ALT’s Performance To Date

So how has ALT fared since trading was launched in November?

Well, it’s been a mixed bag. To date, ALT has over-delivered on its volatility objective. The trust’s annualized standard deviation has been only 3.5 percent, or about half its target rate. But as good as that may sound, it’s actually hurt the portfolio’s performance.

Why?  Well, ALT lost 1.6 percent in market value since its inception, which is less than the period losses sustained by the ELEMENTS S&P Commodity Trends Indicator ETN (NYSE Arca: LSC) and the iShares S&P/GSCI Commodity-Indexed Trust (NYSE Arca: GSG), but more than the 4 basis point slip in the equal-weighted GreenHaven Continuous Commodity Index Fund (NYSE Arca: GCC).

 

ALT’s Relative Performance

alt-fig1 

 

 

Product

Period

Return

Annual

Volatility

Sharpe

Ratio

ALT

-1.58%

3.53%

-2.29

LSC

-4.34%

16.01%

-1.35

GSG

-6.79%

20.56%

-1.50

GCC

-0.04%

13.62%

-0.02

Now, think back to the Sharpe ratio arithmetic. The better numbers accompany assets in which risk pays off in excess (more positive or less negative) return. The GreenHaven fund was “riskier” than the ALT portfolio, but it didn’t lose as much. In the sometimes strange mathematics of risk management, GCC looks like it was the better bet over the past couple of months.

This situation, of course, can change going forward. Only time will tell if ALT ultimately achieves its objectives. Perhaps by the time Morningstar and Lipper start publishing ALT’s portfolio stats, it will.

Written by Brad Zigler From Hard Assets Investor

 

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