Trade Like a Hedge Fund - With an ETF

Can Hedge Fund Strategies be Replicated in an ETF?
It would seem counter-intuitive to assume hedge fund strategies could be replicated by a long only ETF. In fact, it seems almost preposterous that a long only, more or less buy and hold ETF, could possibly replicate the returns of hedge fund strategies such as long/short and arbitrage. However, that is exactly what the IG Mult-Strategy Tracker (QAI) ETF seeks to do.

QAI replicates the tactics hedge funds are famous for, such as short selling and arbitrage, by investing in other ETFs. For example, to create a short position the long only ETF can by ProShares Ultra Short ETFs which ghave inverse exposure. The hedge fund replicating ETF apparently relies on a compex scoring system to guide its investments.

According to Index IQ's website "The IQ Hedge Multi-Strategy Tracker ETF seeks to track, before fees and expenses, the performance of the IQ Hedge Multi-Strategy Index. The Index attempts to replicate the risk-adjusted return characteristics of the collective hedge funds using various hedge fund investment styles, including long/short equity, global macro, market neutral, event-driven, fixed income arbitrage and emerging markets."

Key advantages of the ETF versus a portfolio of hedge fund investments : no minimum investment, daily liquidity, relatively low .75% management fee (versus 2% and 20% for most hedge funds), no accrediting required.

Alas, the ETF has only been trading for a few days and it remains to be seen how well it can actually track billionaire managers and their funds employing some of the smartest people in the country. The IQ Mult-Strategy Index, upon which the ETF is based has outperformed the Credit Suisse Blue Chip Index and HFRX Global Hedge Fund Index over the last 3 months, 1 year, 3 year, and 5 year periods. This could be a good sign, or as is often the case with backtested strategies, it could severely underperform once it goes from hypothetical index to actual equity.

Hedge Funds are Hoarding cash

More Hedge Fund Assets are in Cash
As financial market conditions become more volatile and as the banking crisis appears far from over, many hedge funds are socking away a larger portion of their assets in cash. Edward A.H. Siedle, president of Benchmark Financial Services Inc., an Ocean Ridge, Fla.-based pension consulting firm says "The risk-reward scenario is not favorable right now, and a half-percent return versus another Lehman Brothers-like loss is not worth it."

Horizon Cash Management manages billions in cash for hedge funds. Senior Portfolio Manager, Jill King says "There's a greater need for liquidity in this market, and I think pension funds are sitting on a ton of cash right now." According to Craig Columbus, President of Arizona based hedge fund Advanced Equities Asset Management. "Right now, we're dealing with some of the great challenges of low-yield investing,"

Some other quotes from hedge fund managers regarding their decisions to go to cash:

• Bill Quinn, Chairman of American Beacon Advisors, a Fort Worth, TX based hedge fund: "People have gotten very conservative when it comes to cash, and the Reserve Fund gave a bad blemish to any money market fund not associated with a financial institution with a lot of capital,"

• John Nowicki, President of LCM Capital Management, a Chicago based hedge fund: "We thought it was a no-brainer decision to move our clients' money out of prime money market funds two years ago and into Treasury money market funds,"

• Craig Columbus, President of Advanced Equities Asset Management, a Scottsdale, AZ based hedge fund: "There's lots of concern from a credit quality perspective surrounding [non-Treasury] prime money market funds,"

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Hedge Fund Managers Sees Investing Opportunities Despite Markets

Michael Cuggino, fund manager at the San Francisco based hedge fund Permanent Portfolio Family of Funds, sees opportunities for hedge funds in the current environment. He likes energy, technology, real estate, and certain commodities like copper. Of course, none of these sectors has performed particularly well of late. Mr. Cuggino's fund is down 14.8% this year. The fund has also been buying Treasuries and gold to lessen the impact of declining equity markets. With respect to energy companies, Cuggino likes Chevron, ConocoPhillips, and BP.

Hennessee Hedge Fund Index down 5.52% for October

The Hennessee Hedge Fund Index was down 5.5% in October, less than other hedge fund indeces had predicted. The Barclay Hedge Fund Index, which tracks a slightly different basket, was earlier looking for a 6% + decline in October.

The 5.5% drop in October, was actually a slowing in the pace of declines. The Heennessee Hedge Fund Index was down more than 6.2% in September and is now down more than 15% ytd.

Ironically, the biggest declines were in hedge fund strategies that are typically viewed as being more market neutral such as convertible arbitrage (though this strategy can be highly correlated if managers are net long convertibles) which lost more than 10% in October. The smallest declines came from merger arbitrage (down less than 1%) and the international index (down 4%). The long-short index was down more than 5% for the second straight month, again bringing into question why long-short hedge fund managers have returns that are so highly correlated with long only portfolios.

Motley Fool Launches Quasi- Hedge Fund

The Motley Fool has launched a service called Motley Fool Pro with what they claim are hedge fund like strategies including options trading. Here is an excerpt from their sales page.

• Do you love stocks, but are also interested in options, ETFs, and other advanced hedge strategies?
• Do you value the levelheadedness of The Motley Fool, but would sometimes like to kick it up a notch?

Unfortunately for you, due to what they call "overwhelming demand", they are not taking enrolling new members. You just might be better off.