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Low Beta Alternative ETFs for a Rocky Market

China, the main stock market culprit last year, continued to play foul with the start of the New Year. This is especially true as weak manufacturing data for the tenth consecutive month and further devaluation of the Chinese currency halted stock trading in China for the second time in the first trading week of January. This resulted in fresh fears over a slowdown in the world’s second largest economy and its global repercussions.

In addition, escalating tensions in the Middle East, sliding oil prices, weak earnings expectations, diverging monetary policies, a strong dollar, weakness in many developed and developing economies and uncertainty in the timing of the next rate hike continued to drag the stocks lower (read: China Crash Spoils New Year Mood: ETFs in Focus).

Further, the World Bank cut its growth forecast for the global economy to 2.9% for this year from its previous projection of 3.3%, citing that slowdown in one of the big emerging market countries and more-than-expected slowdown in Brazil and Russia have worsened the already bleak global economic outlook.
Amid these uncertainties, investors are seeking exposure to alternative sources of income rather than equity and bonds. For these investors, an allocation to low beta funds could be the safest, for as long as the disorder lingers.

Why Low Beta?

Beta measures the price volatility of the stocks or funds relative to the overall market. It has direct relationship to market movements. A beta of 1 indicates that the price of the stock or fund tends to move with the broader market. A beta of more than 1 indicates that the price tends to move higher than the broader market and is extremely volatile while a beta of less than 1 indicates that the price of the stock or fund is less volatile than the market.

With that being said, low beta ETFs exhibit greater levels of stability than their market-sensitive counterparts and will usually lose less when the market is crumbling. Though these have lesser risks and lower returns, the funds are considered safe and resilient amid uncertainty. However, when markets soar, these low beta funds experience lesser gains than the broader market counterparts and thus, lag their peers.

Given the huge levels of volatility in the market, investors could find the following ETFs as intriguing options until the market track becomes clear (read: Market Stings? 6 Techniques for a Winning ETF Portfolio).
QuantShares U.S. Market Neutral Size Fund (SIZ): Beta - 0.06

This fund invests in low capitalization securities while at the same time short high capitalization stocks of approximately equal dollar amounts within each sector. It seeks to deliver the spread return between high- and low-ranked stocks. This can easily be done by tracking the Dow Jones U.S. Thematic Market Neutral Size Index.

The product holds a long position in 200 stocks and a short position in another basket of 200 stocks. It will generate positive returns when the basket of long stocks outperforms the short portfolio. The fund is expensive charging 1.49% in fees per year and trades in a paltry volume of under 3,000 shares per day. SIZ has accumulated $2.1 million in its asset base and added 1.3% in the first week of 2016.

ProShares Morningstar Alternatives Solution ETF (ALTS): Beta - 0.08

This ETF provides diversified exposure to alternative asset classes in order to enhance risk-adjusted portfolio returns when combined with a range of traditional investments. It tracks the performance of the Morningstar Diversified Alternatives Index, which allocates among a comprehensive set of ProShares ETFs that employ alternative and non-traditional strategies such as long/short, market neutral, managed futures, hedge fund replication, private equity, infrastructure or inflation-related investments.

The fund has AUM of $26.6 million and trades in lower average daily volume of 11,000 shares. Expense ratio comes in at 0.95%. It lost 1.3% over the past five trading sessions.   

PowerShares Multi-Strategy Alternative Portfolio (LALT): Beta – 0.09

This is an actively managed fund that seeks to achieve a positive total return with low correlation to the broader securities markets by investing in a combination of equity securities, financial futures contracts, forward currency contracts and other securities. The product has amassed $13.4 million in its asset base and trades in a paltry volume of about 5,000 shares a day. It charges 95 bps in fees per year from investors and is down 0.2% in the same time frame.

First Trust Morningstar Managed Futures Strategy Fund (FMF): Beta – 0.10

This actively managed fund seeks to deliver returns that exceed the performance of the Morningstar Diversified Futures Index by actively selecting investments for the fund with varying maturities from the underlying components of the benchmark. It is also an unpopular and illiquid ETF with AUM of $12.5 million, and average daily volume of 2,000 shares. Expense ratio comes in at 0.95%. The fund has lost 0.8% since the start of the year (read: Alternative ETFs to Beat Volatility Post Lift-Off).
IQ Hedge Market Neutral Tracker ETF (QMN): Beta - 0.10

This product tracks the IQ Hedge Market Neutral Index, which seeks to replicate the risk-adjusted return characteristics of hedge funds using a market neutral hedge fund strategy. It invests in both long and short positions in asset classes while minimizing exposure to systematic risk. This strategy seeks to have a zero beta exposure to one or more systematic risk factors including the overall market (as represented by the S&P 500 Index), economic sectors or industries, market cap, region and country.

The portfolio consists of a variety of ETFs including a number of fixed income funds and equity funds. The ETF allocates heavy weights in fixed income products focusing on Treasury high quality corporate securities. It has AUM of just $15 million and average daily volume of about 9,000 shares. It charges 90 bps in fees and expenses and added 0.3% in the initial trading sessions of the New Year.

Bottom Line

Investors should note that these products are not meant for generating outsized returns. Instead, these provide stability in the portfolio protecting the initial investment. In particular, these products could be worthwhile for low risk-tolerant investors looking to safeguard their portfolio in a rocky market and some outperformance, especially if market uncertainty persists over the coming months.

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IQ-HEDGE MKT NT (QMN): ETF Research Reports
FT-MSR MFSF (FMF): ETF Research Reports
PWRSH-MS AP (LALT): ETF Research Reports
PRO-SH MSTR ALT (ALTS): ETF Research Reports
QS-US MN SIZE (SIZ): ETF Research Reports
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