June has been a rough month for a lot of investors.
The investing themes that have done well so far in 2013 — everything from U.S. dividend-focused stocks to small-cap Japanese equities — have gone sharply into reverse. The market has started to get jitters that the Fed’s QE Infinity will actually be quite finite … and it appears Abenomics has run out of steam.
We’re not in bear market territory, and we’re not really in a broad-based correction. But investors seem to be struggling to find that next great investment theme.
During times like these, it’s nice to look over the shoulders of some of the best and brightest managers in the business to see how they are reacting. I make a habit out of digging through the trading moves of managers I admire, and sites like Guru Focus take what used to be a tedious and time-consuming nightmare — digging through SEC filings — and turn it into a simple screen.
Want to see what Warren Buffett is buying? It’s as simple as viewing his profile.
Investors looking for a one-stop “buy and forget” guru following strategy now have a couple of exchange-traded funds to choose from.
One — the Global X Top Guru Holdings Index ETF (GURU) — I reviewed about a year ago. As I noted then, GURU’s portfolio is an equally weighted mix of the “high conviction” picks of the hedge fund managers that Global X follows. These would include household names like David Einhorn’s Greenlight Capital, John Paulson’s Paulson & Co. and Seth Klarman’s Baupost Capital, among many, many others.
AlphaClone has a competing guru product, the AlphaClone Alternative Alpha ETF (ALFA).
AlphaClone’s methodology is a little more complex. The underlying index looks at most of the same managers but has a proprietary system for ranking them. And while the positions are “equally weighted,” there is an allowance for overweighting if a stock has multiple guru owners. For example, a stock held by twice the number of managers would have twice the weighting in the index.
AlphaClone’s ETF has one other noteworthy feature: it has a “dynamic hedging” mechanism that allows it to be up to 50% short during a prolonged market downturn. In ALFA’s case, the ETF will shift half of the portfolio into an inverse S&P 500 fund when the S&P ends a month below its 200-day moving average.
So, which ETF is better?
It’s really a matter of opinion. ALFA’s built-in hedging strategy would have been a life-saver during the 2000-03 bear market or the 2008 meltdown. But during a long, rangebound market, there is the risk of getting perpetually whipsawed by buying and selling at precisely the wrong turning points. I prefer to hedge my portfolio in other ways — such as by altering the allocation between equities and cash or bonds or by taking an active rebalancing approach.
ALFA’s ability to overweight positions based on ownership by multiple gurus is a nice feature, however, and I consider this an advantage over GURU’s simple equal-weighting.
Taking a look at YTD performance, however, GURU has the better record. ALFA has tracked the S&P 500 pretty closely this year, whereas GURU is outperforming by a good 5%.
A single five-month period is not sufficient for judging the performance of a model, and over time, I would expect both to outperform the S&P 500 — at least before taxes and fees.
But you should also have realistic expectations about what you are buying. Buying GURU and ALFA is not the same as buying an interest in the underlying hedge funds. As I noted in my original article on GURU, the ETFs only buy listed stocks, and many major guru investments are not publicly traded. Many of Warren Buffett’s holdings are privately held companies, for example.
Furthermore, the ETF only tracks long positions. If a given “high conviction” pick is really just one half of a pair trade, the ETF managers would have no way of knowing this. And there is no way to account for futures, options or other derivatives that might be part of the trade.
And finally, as with all guru-following strategies, there is a time lag. It is entirely possible that the conditions that lead a guru to buy a stock no longer exist by the time GURU and ALFA place their trades.
My take? GURU and ALFA are both decent ETF products, and I expect both to do well. But if you really want to take full advantage of guru-following strategies, roll up your sleeves and look at your favorite investors one by one. You can learn more from looking at the manager’s portfolio as a whole than by simply selecting the top pick and blindly following it.
Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management. As of this writing, he did not hold a position in any of the aforementioned securities. Click here to receive his FREE 8-part investing series that will not only show you which sectors will soar but also which stocks will deliver the highest returns. The series starts November 5 and includes a FREE copy of his 2014 Macro Trend Profit Report.