So Far So Good for This Long-Short Equity Fund

Patricia Oey: Bronze-rated Schwab Hedged Equity is a long-short equity strategy that employs a systematic process with a qualitative overlay. Comanagers Jonas Svallin and Wei Li both have extensive experience employing quantitative tools for investing, and they are supported by a five-person team.

The process starts by ranking a universe of about 3,000 U.S. companies using four types of screens: healthy or improving fundamentals, attractive valuations, momentum, and low risk. The managers take about 1,600 of the largest, highest-ranking names and then groups them by sector. They then apply another set of signals, which are customized by sector. Then the stocks are grouped into 55 industries and ranked. The managers use a portfolio-optimization software to reduce unintended bets on sectors or risk factors, as well as to minimize transaction costs. The team continuously monitors the portfolio and may make some adjustments after additional fundamental analysis.

The goal is to have an average 60% beta to the S&P 500 over a full cycle. Generally, this means the fund will have a 100% long allocation and a 20%-60% short allocation. The managers seek to generate alpha from small and mid-caps, taking long positions in highly ranked companies and short positions in lower ranked companies. Beta exposure tends to come from long positions in large and mid-cap stocks. Currently, the fund is still small, with only about $250 million in assets. Given that the fund invests a lot in mid-caps and small caps, it is worth monitoring asset growth.

This process has been in place since 2012, and over the trailing three and five years, the fund's risk-adjusted performance has been within the top quartile. A solid track record so far, but somewhat untested, as markets have not had a sustained downturn over that period.