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New Long/Short ETF by First Trust Focused on Commodities

Zacks Equity Research

The market went berserk at the start 2016 with global growth issues taking an upper hand. So the need for investment strategies to guard against volatility came at the forefront. Since then the global market has stabilized a lot mainly thanks to the revival in oil prices and easing upheavals in several developed and emerging economies. But things are yet to go a long way before a full-fledged recovery.

It has been noticed that in turbulent times, alternative assets offer a considerable guard against downside risks. Probably this is why First Trust recently launched a new product, namely First Trust Alternative Absolute Return Strategy ETF FAAR). This seeks to offer stable returns irrespective of market conditions, though it does not promise a profit or shield against a loss, as per the factsheet (read: ETF Strategies to Gain from in the Rest of 2016).

Inside FAAR

This actively managed ETF looks to provide investors with long-term total return by using a long/short commodities strategy, as per the issuer. The fund invests primarily in exchange-listed commodity futures contracts. As of May 24, 2016, the fund’s long portfolio was topped by Soybean Futures Jul16 (5.88%), Cattle Feeder Futures Aug16 (3.96%) and Corn Futures Jul16 (3.32%). On the other hand, the fund’s short positions were dominated by Natural Gas Futures Jul16 (negative 5.38%), KC HRW Wheat Futures Jul16 (negative 4.98%) and WTI Crude Futures Jul16 (2.71%). The fund charges 95 bps in fees.

How Does it Fit in a Portfolio?

Volatility levels remained high at the current level in the market. Uncertainty over timing and the pace of Fed tightening, the Chinese market slowdown, future courses of oil prices and overall global growth issues will likely to keep the market edgy in the coming days (read: Will Volatility ETFs Rule in May?).

In such a scenario, long/short ETFs provide greater cushion to investors. In any case, “absolute return strategies offer an alternative to traditional investments such as stocks and bonds….absolute return strategies target positive returns in all market cycles with lower volatility than traditional investments”, as per the issuer.

ETF Competition

Though the space is getting crowded with funds gradually, the long/short strategy based on commodity futures is pretty new. So, from that context, FAAR should not face hurdles in building assets. It is likely to face competition from ELEMENTS Linked to the S&P Commodity Trends Indicator - Total Return (LSC). LSC charges 75 bps in fees.

Agreed, the newly launched fund looks a little pricey with a 0.95% expense ratio, especially when the lowest expense ratio of the long/short space is 0.45% offered by X-Links Long/Short Equity ETN (CSLS). Yet, we believe unique strategy of FAAR related to commodities is worth the high cost.

First Trust already has a product namely First Trust Long/Short Equity ETF FTLS) in the long/short space, which has in fact amassed the largest assets of over $120 million in the long/short space.  From this angle we can again say that the newly launched fund is probably due for a successful run ahead, given the issuer’s prior success in the same area. Investors should note that FTLS saw success despite charging a high total annual expense ratio of 1.47% (see all Long-Short ETFs here).
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FT-LONG/SHRT EQ (FTLS): ETF Research Reports
ELEMT-LK SP CMD (LSC): ETF Research Reports
CS-LONG/SHORT (CSLS): ETF Research Reports
FT-ALT ABS RET (FAAR): ETF Research Reports
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