Managing the Future With These Alternative Funds

After a strong 2014 run, managed futures are roaring back on the liquid alternatives stage, as investors poured $1.6 billion into these trend-following mutual funds. There is certainly a degree of performance-chasing here, considering that investors had nearly given up on the strategy. Since the group's meteoric 2008 rise--that year managed-futures funds were one of the few Morningstar Categories to gain in value--the group has largely floundered in terms of performance and flows. (A word of caution: There were only a few managed-futures mutual funds at that time, but their hedge fund counterparts, called systematic futures in Morningstar's database, increased 18.1% in 2008). Finally, for a more detailed discussion on the efficacy of managed futures and other issues plaguing the space, please see my colleague Jason Kephart's article, Buyer Beware With Managed-Futures Funds.

The trouble for mutual fund investors looking for managed-futures exposure is that there haven't been many good options.

A Recent Upgrade

Natixis ASG Managed Futures Strategy is no category newcomer. The fund has been around since early 2010, and management has a strong background running alternative strategies. AlphaSimplex Group, a subsidiary of Natixis that was founded by Andrew Lo in 1999, also runs a multialternative hedge fund replication strategy (

Natixis' models are also unique in that they aren't static trend models but can adapt to changing market circumstances. For instance, the models will try to isolate which types of trends (such as long- or short-term trends) are currently working and will steer the fund into more profitable trades. The result has been relatively favorable, although the figures should be viewed with a grain of salt since the fund takes on more leverage than many of its peers. Since its 2010 inception through May 2015, the fund has increased 8.2%, compared with 1.5% for the category, while its prospectus benchmark, the Newedge Trend Index, increased 6.8%. Although the fund receives a Bronze overall, we have assigned its Process a Neutral score, because of the black-box nature of its models.

A Reliable Standby The category standout remains Silver-rated AQR Managed Futures Strategy, which received the award for Morningstar Alternatives Fund Manager of the Year in 2013. (A higher-volatility version of the same strategy, AQR Managed Futures Strategy High Volatility, leveraged at 1.5 times, also receives a Silver rating.) Its approach is simple: The fund seeks to provide passive, diversified exposure to momentum. By providing investors with a diversified strategy, across time periods (long and short) and asset classes (equities, fixed income, currencies, and commodities), the fund has managed to hold up better when more-concentrated strategies take a hit. The fund trades nearly 100 futures contracts and equally weights all four asset classes by their risk levels. It also applies some of AQR's special sauce to the mix, adding in a model that prevents the fund from piling on to trades that are overextended and possibly heading for a U-turn. While that model isn't necessarily meant to contribute to returns, AQR views it as a risk mitigator.

The fund also uses an intricate drawdown process (as does Natixis ASG). The system cuts volatility in 13% increments as the fund loses money and will add back risk as asset prices move higher. And like Natixis ASG, AQR is no stranger to alternatives. The firm is well-versed in the art of short-selling and has seven funds in Morningstar's alternatives categories. The five-person portfolio-management team's experience is a plus here, and many of the firm's principals have been managing trend-following strategies together since their days at Goldman Sachs in the mid-1990s. The firm also boasts an impressive trading infrastructure, with a 27-person trading team.

A Newcomer That Bucks the Trends

A relative newcomer to the space, Neutral-rated

But the fund's negative correlation, and negative beta, to equity markets mean that it has been a strong diversifier, while gaining 7.5% since inception. Still, the strategy is largely untested in down markets, and investors should probably proceed with caution.

Is the Future Bright? Past struggles for managed-futures funds have been twofold. First, since the crisis, short-term interest rates have plummeted. While that may not seem important, managed-futures funds enjoy large piles of cash thanks to the capital efficiency of futures contracts. In an era of mid-single-digit short-term interest rates, managed-futures funds were able to pad their returns with high money market yields. But in today's low-interest-rate environment, those cash returns are minuscule. Second, market reversals have been especially painful during the last few years. While equity price movements may appear to say otherwise, global markets have exhibited a variety of head fakes during the last few years (for instance: commodities in 2012) as many rallies have turned out to be nothing more than false starts. But while the strategy's portion of returns from interest rates will likely stay low for a while, there have been signs that things are looking less bleak. Recent sustained movements in commodity and currency prices have helped category constituents post better numbers. And firms such as AQR and Natixis, which offer well-constructed and transparently priced strategies have, all things considered, held up remarkably well during this past managed-futures slump. If the path for managed futures continues to get brighter, we expect these funds to truly shine.

For a list of the open-end funds we cover, click here. For a list of the closed-end funds we cover, click here. For a list of the exchange-traded funds we cover, click here. For information on the Morningstar Analyst Ratings, click here.