Absolute-Return Funds Are Down, Not Out

NEW YORK (TheStreet) -- It's time to revisit absolute-return funds now that the bear market seems to be over.

Two and a half years ago, I wrote about the Rydex Managed Futures Fund(RYMFX Quote), which was new. At the time, the financial sector was starting to show signs of trouble with the failure of a couple small mortgage lenders. The basic premise behind absolute return was that it could shield investors from big declines.

Absolute-return and many alternative-strategy products try to deliver a consistent return regardless of the market environment. Not every fund in the space will achieve that, but some can. Since that article, I have profiled the Nakoma Absolute Return Fund(NARFX Quote) and the Dover Long Short Sector Fund(DLSAX Quote). The Rydex fund goes long or short commodity futures and financial futures based on seven-month relative strength, and the Nakoma and Dover funds are actively managed, choosing what to go long or short.

All three funds performed as advertised until the low in March. During the worst of the bear market, interest in these funds, based on media reports and anecdotal comments on my blog, went off the charts, which makes sense because these funds were "working."

Just as everything went down a lot during the bear market, except some absolute funds and Treasuries, we have seen everything go up a lot in what is now a five-month rally -- everything except some absolute-return funds and Treasuries. During that five-month rally, the S&P 500 is up close to 50%, and all three funds are down 5% to 10%.

So is now the time to sell this type of fund? If you ever bought an absolute-return fund, why did you buy it? What role was it intended to play in the context of a diversified portfolio? Managing volatility is its biggest role because absolute-return funds are much less volatile than the stock market. Despite the small decline in the past few months, that is exactly what the funds continue to do.