Rydex launched a mutual fund earlier this month that offers small investors a crack at an investment strategy normally reserved for the wealthy: managed futures.
Managed futures, also known as commodity futures, are derivative contracts tied to physical commodities, including grains and livestock, or financial instruments, such as currencies or interest rates. They can produce returns that aren't closely correlated to the performance of stocks and bonds.
The timing of the launch has been less than ideal. It comes as some of the big players that follow trends in commodity futures have been hit by the recent market rout. The managed futures funds tracked by Hedgefund.net lost an average 1.13% in February and were down 0.39% in the first two months of the year. It was the only hedge-fund strategy tracked by the firm to post losses during the month or year to date.
Ed Egilinsky, Rydex's managing director of alternative investments, says the
Managed Futures Fund's (RYMFX) benchmark index, the Standard & Poor's Diversified Trends Indicator, held up better than a lot of managed futures funds in February, giving up just 0.05%. Moreover, "low correlation doesn't necessarily mean alterative investments will be up every time other markets are down; you have to look at it from a long-term perspective."
He says Rydex's fund gives individual investors access to strategies "institutions have been using for decades" to manage risk and diversify their portfolios.
Here is how "playing the futures" usually works: Most people participate through managed pools with high income and net-worth restrictions. Liquidity is limited, and clients can often make trades just once per month. High rollers who get involved in the futures market directly make leveraged bets and have to be ready to cover margin calls. Sometimes they lose more than invested.
The new Rydex fund requires just a $2,500 initial investment. Annual expenses add up to 1.65% of assets, including management and12b-1 distribution fees. After 90 days, the investor is free to redeem shares at any time without penalty (there is a 1% fee for shares owned less than 90 days). The Managed Futures Fund is taxed and regulated like any other mutual fund. You can't lose more than you put in.
At the moment, the Rydex fund doesn't hold futures contracts. It gains exposure to the market through the purchase of structured notes tied to the performance of the S&P DTI. This index follows trends in 14 futures sectors, taking both long and short positions in them. Every month, it's rebalanced to remain equally weighted between physical commodities and financial assets.
Last month's downturn notwithstanding, the index tends to move independently of other asset classes. From January 1985 to December 2006, the S&P DTI had a -0.078 correlation with the
. That means there was almost no direct relationship. A fund based on the S&P DTI and futures contracts could be used to diversify a portfolio and shield it from volatility of other markets.
While the S&P DTI behaves differently than a basket of widely held stocks, the end results are similar. During the same 10-year period discussed above, the S&P DTI's rate of annualized returns was 11.04%, compared with the S&P 500's 12.93%.
While that sounds good, Morningstar analyst Reginald Laing warns that the Rydex fund's performance will lag behind the index because the cost of buying structured notes "takes a bite out of returns." Rydex estimates that charges related to structured notes will eat away at up to 1.5% of the fund's total assets annually.
Laing also believes the S&P DTI's trend-chasing approach is "problematic because you are buying into strength and selling into weakness." He says there are better ways to gain commodity exposure, such as investing in stocks, mutual funds and ETFs linked to the cash markets for grains, livestock and metals.
As for the financial futures, you may not want exposure to them at all. "The reason forecasting currency exists," Laing says, "is to make forecasting the weather seem reliable."
Egilinsky stands by the S&P DTI, saying Rydex is "comfortable with that benchmark." He says the Managed Futures Fund and the other alternative investment options the company offers aren't necessarily meant to be held alone but instead to be integrated into a highly diversified portfolio as part of a long-term asset allocation strategy.