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A Cheap Way for the Little Guy to Hedge
06/14/2010 12:30 pm EST
Russel Kinnel, director of fund research and editor of Morningstar FundInvestor and analyst Ryan Leggio find a long-short fund with a good track record and reasonable fees.
Hussman Strategic Growth (HSGFX) is run by John Hussman, a former economics professor. He runs the fund by himself but does have the help of several database analysts.
The fund’s goal is to outperform the Standard & Poor’s 500 over a full market cycle with better downside protection.
To accomplish this goal, Hussman buys long positions in individual stocks and puts in market indexes, which significantly reduce the fund’s market exposure. Hussman’s process focuses on two factors: valuation and market action, both at the stock and general stock market level. It usually owns around 100-150 holdings chosen strictly through a quantitative screen, [which] focuses primarily on the relationship between current stock prices and the present value of expected future cash flows. Hussman uses a 10% discount rate for all stocks and never talks to management.
When valuation is favorable in Hussman’s view, as [he believed] it was in early 2009 and briefly in 2002, Hussman will remove or alter puts that he buys on market indexes, so the fund’s performance is dictated primarily by how well the fund’s stocks perform. When valuation is unfavorable, as [he thinks] it is currently, he tightly hedges the fund so that [it’s] close to zero net long exposure.
In such a situation, any positive returns would require that his stock picks outperform the market at large. In his weekly commentary, Hussman regularly updates shareholders on general market valuation and the status of the fund’s hedges. The analysis of market action includes measurements like trading volume and stock price behavior. For example, Hussman believes that favorable earnings surprises above consensus estimates can result in increases in stock prices.
Compared with the roughly 85 other long-short funds, this fund is a steal. It charges 1.04% compared with 1.85% for the median no-load fund in the category. The fund’s expense ratio has regularly dropped since the fund’s inception. These cuts reflect active reductions in investment advisory and fund administration fees, the addition of new fee breakpoints, and general growth in fund assets to $5.6 billion.
Hussman has easily accomplished his goal of beating the S&P 500 over a full market cycle with better downside protection. The fund has grown $10,000 to more than $20,800 from [its] inception through April 30th.
Meanwhile, a $10,000 investment in the S&P 500 would be [worth] just $9,702, and $10,000 in the Russell 2000 would be $15,861. In 2008 the fund lost 9% compared with a 37% loss for the S&P. But the fund lagged considerably in 2009 (up 4.6% versus up 26% for the S&P) as Hussman kept the mutual fund tightly hedged because of concerns about the true strength and durability of the economic recovery. Hussman has more than $1 million invested in the fund.
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