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How to achieve hedge fund returns at lower cost, more liquidity, and enhanced transparency
Alternative beta strategies can achieve hedge fund-like returns, but without the drawbacks
Bayani S Cruz 19 Oct 2017

SINCE the global financial crisis investors have been seeking ways to achieve hedge fund-like returns without the challenges that come with investing in hedge funds, such as high management fees, lock-up periods, and a lack of transparency.

Alternative beta strategies are now making it possible for investors to achieve hedge fund-like results while at the same time having lower fees, greater liquidity, and enhanced transparency.

According to Sherene Ban, global head of beta specialist team at J.P. Morgan Asset Management (JPMAM), alternative beta strategies are simply rules-based strategies designed to provide access to the portion of hedge fund returns attributable to systematic risk (also known as beta) instead of manager skill (also known as alpha) using a methodical approach.

“The objective alternative beta strategies are to achieve hedge fund-like returns not just at a lower cost but it’s also more liquid and transparent,” Ban says.

Alternative beta strategies cost much less in terms of management fees, and have been billed as a “democratization” of hedge fund investing. Hedge fund managers typically charge a flat 2% of total asset value as a management fee and an additional 20% of any profits earned.

“If you think about a typical hedge fund, you typically get fees at two-and-twenty, you get monthly lock ups (where the investor cannot redeem), and typically you don’t know what’s inside of it because it’s kind of a black box,” Ban says.

For its alternative beta strategies, JPMAM has lower management fees than two-and-twenty, as well as daily liquidity and transparency in the form a Luxembourg fund.

“Instead of a monthly lock up you have it on a daily liquid vehicle, which is a Luxembourg fund, and you have transparency because you can see all the rules that go into it, and you can see all the holdings and it’s also low cost. If you look at the systematic alpha, the C-share class, these are 75 basis points, way below that of traditional hedge funds. We also have a long-short style fund and the management fees on that and the C-share class is 60 basis points,” Ban says.

An alternative beta strategy is actually a form of factor investing that combines specific strategic beta factors such as the momentum factor, value factor, and quality factor in either a modular approach or an integrated approach.

Using the modular approach, a final portfolio is built by combining standalone single factor portfolios to create the final portfolio. This means the momentum factor will have a momentum portfolio, value factor will have a value portfolio, while the quality factor will have a quality portfolio. The final portfolio will be the totality of these three portfolios.

In the integrated approach the final portfolio is built by determining the composite score of the three single factors and using this composite score to build the final portfolio.

“When I just talked about beta, what it aims to give you is the traditional market beta. Where we think we add value in this case is strategic beta, momentum, value, quality, and so on. This is where we are doing a lot of research on the strategic beta equity and importantly fixed income,” Ban says.

JPMAM currently has about US$5 billion in its strategic beta portfolio with under US$3 billion of it invested in Luxembourg fund.

“But we have this strategy in other vehicles as well, for example, commingled funds for US clients and so on. So, all the various vehicles come up to US$5 billion for the strategy,” Ban says.

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