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3 Alternative Mutual Funds to Endure Volatility Post Rate Hike

·6 min read

The Federal Reserve has maintained its hawkish stance to bring down inflation to its 2% objective with yet another rate hike of 75 basis points on Sep 21, 2022. Such a decision came after the consumer price index (CPI) for the month of August rose 0.1% after remaining unchanged for the month of July. Even though gas prices have dipped, prices of other goods and services, including rents, food and healthcare, continued to increase.

Investors are now worried that the Fed’s aggressive tightening measures to curb inflation might derail economic growth in the near future. After all, interest rate hikes will increase the cost of borrowing, impact consumer spending, increase unemployment and slow down economic growth, which will eventually push the economy toward a recession.

On the other hand, the Russia-Ukraine war and rising tension between China and Taiwan have led to further worsening of the situation, disrupting the global supply chain. Moreover, Wall Street has been bleeding lately, with the S&P 500, the DOW & the Nasdaq declining 21.15%, 17.23%, and 29.26%, respectively, so far this year.

Looking at the current gloomy situation, investors who seek to earn a steady income should park their money in some of the following types of alternative mutual funds.

Long/Short Mutual Funds

Equity long/short funds seek to gain from both winning and losing stocks, irrespective of the market scenario. These funds use conventional methods to identify stocks that are either undervalued or overvalued. It profits from shorting the overvalued stocks and buying the undervalued ones. Weights are subject to change and are dependent on management’s view on the market.

For example: say an investor buys a long/short mutual fund for $100, then the fund manager will invest it in assets that are expected to fare well. The manager shorts $30 in stocks that are believed to be overvalued. In the process, he receives $30 in cash. He will now use the $30 to buy more assets with an upside potential. Thus, now he has a total of $130 invested in long positions and $30 in short positions. This type of long/short fund is called a 130/30 mutual fund.

Event Driven Mutal Funds

An event-driven strategy takes advantage of temporary price action, which can take place before or after corporate events such as restructurings, mergers/acquisitions, bankruptcy, spinoffs, takeovers and others under the guidance of teams of experts who can analyze such corporate actions and determine the effect of the action on a company's stock price.

For example: the price of a company generally rises when the news of an acquisition floats in the market. Expert analyst at an institutional investor will analyze various factors, such as price, regulatory environment, and fit between the services (or products) offered by both companies will determine whether or not the acquisition is likely to occur. Based on careful analysis of the target and acquiring companies, if there is enough potential for upside, the investor may buy shares of the target company to sell after the corporate action is complete.

Trading-Leveraged Equity Funds

Leveraged funds use borrowed money to increase returns in a short spell of time. These funds generally strive to return a certain multiple of the short-term returns of an equity index. For example, a 2X S&P 500 fund aims to generate twice the returns that the S&P 500 manages to achieve. Leveraged funds are primarily marked “ultra,” “bull” or “2X.”

Leveraged funds also offer benefits such as diversification. These funds invest in a diversified portfolio of assets, which minimize risk, while escalating returns. In addition to this, investors enjoy the benefits of “dollar cost averaging,” where a young investor depositing $10,000 in these funds reaps the same benefits that a high-net-worth individual receives, say by depositing $50,000,000. These funds also enjoy tax deductions.

Moreover, mutual funds, in general, reduce transaction costs and diversify portfolios without an array of commission charges that are mostly associated with stock purchases (read more: Mutual Funds: Advantages, Disadvantages, and How They Make Investors Money).

Thus, we have selected three such alternative mutual funds that boast a Zacks Mutual Fund Rank #1 (Strong Buy) have positive three-year and five-year annualized returns, minimum initial investments within $5000, and carry a low expense ratio.

AB Select US Long/Short Portfolio ASILX invests most of its net assets in the form of long and short positions in equity securities of U.S.-based companies, irrespective of their market capitalization, along with cash and U.S. cash equivalent. ASILX advisors may also invest a small amount of their net assets in issues of foreign companies.

Kurt A. Feuerman has been the lead manager of ASILX since Dec 12, 2012, and most of the fund’s exposure is in sectors like others (51.49%), Technology (15.28%), and Finance (12.10%) as of 8/31/2022.

ASILX’s three-year and five-year annualized returns are 8.3% and 7.8%, respectively. ASILX has a Zacks Mutual Fund Rank #1 and an annual expense ratio of 1.56% compared with the category average of 1.92%.

To see how this fund performed compared in its category, and other 1 and 2 Ranked Mutual Funds, please click here.

The Arbitrage Fund ARGAX invests most of its net assets in common and preferred stocks that are involved in publicly announced mergers, takeovers, tender offers, leveraged buyouts, spin-offs, liquidations and other corporate reorganizations. ARGAX advisors use such a highly specialized investment approach designed to profit from the successful completion of such events from domestic and foreign companies.

John S. Orrico has been the lead manager of ARGAX since Sep 18, 2000, and most of the fund’s exposure is in sectors like Technology (33.07%), Finance (16.12%) and others (12.16%) as of 8/31/2022.

ARGAX’s three-year and five-year annualized returns are 4.4% and 3.5%, respectively. ARGAX has a Zacks Mutual Fund Rank #1 and an annual expense ratio of 1.49%, compared with the category average of 1.90%.

Rydex Nova Fund RYANX invests in common stocks of companies that are generally within the capitalization range of the underlying index using its investment strategy. RYANX advisors also invests in leveraged derivative instruments such as equity index swaps and swaps on exchange-traded funds, futures and options on securities, futures contracts, and stock indices.

Michael P. Byrum has been the lead manager of RYANX since Jul 12, 1993, and most of the fund’s exposure is in sectors like Technology (44.52%), Finance (17.29%) and others (13.49%) as of 8/31/2022.

RYANX’s three-year and five-year annualized returns are 13.3% and 13.0%, respectively. RYANX has a Zacks Mutual Fund Rank #1 and an annual expense ratio of 1.48%, compared with the category average of 1.98%.

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