Diversification is still one of the best ways to protect and grow your portfolio in a variety of market environments. By having a mixture of asset classes that zig while others zag helps ensure that your portfolio can stand up to whatever the market dishes out.
The problem is that every standard asset class is starting to move in similar patterns.
According to alternative ETFs sponsor Direxion, correlations between asset classes have been growing closer and closer together. From the start of 1994 through the end of 2013, developed and emerging market international stocks have shown a correlation of 80% and 72% with the S&P 500. Those numbers mean that they practically move in lock-step with the S&P.
Even benchmark bond indices — like the Barclays Capital U.S. Aggregate — have shown positive correlations with stocks during that time. Bonds are supposed to have an inverse relationship with stocks.
Which is why liquid alternative ETFs could be a great bet for concerned investors.
Asset classes like commodities or managed futures along with strategies like 130/30 and merger-arbitrage are some of the only ways investors can truly gain diversification for their portfolios. And while they may seem like exotic assets, the boom in alternative ETFs makes it easy for anyone to add them to a portfolio.
Here are four of the best alternative ETFs to buy today.
Alternative ETFs To Buy — IQ Hedge Multi-Strategy Tracker ETF (QAI)
When it comes to alternative ETFs, one of the first to enter the sector is still one of the best broad-based funds to choose from. The nearly $1 billion IQ Hedge Multi-Strategy Tracker ETF (QAI) is an alternative ETF that attempts to replicate the risk-adjusted return characteristics of hedge funds using various alternative investment styles.
Basically, you get all the various liquid alts styles under one ticker: long/short equity, global macro, market neutral, event-driven, fixed income arbitrage and emerging markets strategies.
QAI is an alternative ETF of ETFs, meaning it holds other publicly traded ETFs as its holdings. The fund is actively managed and shifts frequently to achieve its mandate of providing hedge-fund-like risk-adjusted returns. Current top holdings for include the Vanguard Total Bond Market (BND), iShares Russell 2000 Growth (IWO) and PowerShares Senior Loan (BKLN).
Since its inception, QAI has managed to provide consistent returns — around 4.1% annually since 2009. Yes, those returns have trailed the S&P 500. But alternative ETFs aren’t intended to beat the market every year. Remember, we’re looking for diversification here, and that’s exactly what QAI provides.
Expenses for the alternative ETF run 0.91% or $91 per $10,000 invested.
Alternative ETFs To Buy — WisdomTree Managed Futures Strategy ETF (WDTI)
At its core, a managed futures strategy takes advantage of various price trends across different futures contracts — things like commodities, currencies and stock index derivatives. The WisdomTree Managed Futures Strategy ETF (WDTI) manages to take that complex (read: expensive) strategy and puts into a little neat alternative ETF costing only 0.95% to own.
WDTI is actively managed and is designed to track the Diversified Trends Indicator (DTI Index). The DTI is main benchmark for the sector and includes everything from U.S. treasury futures and currency futures/non-deliverable forwards to commodity futures/swaps. WDTI also holds U.S. government and money market securities as collateral for its futures holdings.
However, the beauty for this alternative ETF is that investors in WDTI only get a 1099 come tax time. That’s much simpler than getting a K-1 statement and all its the hassles for regular futures pools.
So far, performance for WDTI has been pretty poor as most commodities have fallen by the wayside and stocks have rallied. However, that just highlights WDTI’s non-correlated status with broader asset classes. WDTI is one of the best ETFs to buy for more troubled times ahead.
Alternative ETFs To Buy — ProShares RAFI Long/Short (RALS)
One strategy making its way into alternative ETFs is long/short. Essentially, long/short funds will take long positions in stocks that are expected to appreciate and short positions in stocks that are expected to decline. The idea is profit from the spread between the pair trades.
The popular ProShares RAFI Long/Short (RALS) shorts and goes long stocks in equal proportions, which is different than many long/short funds, as they usually have a slight bias towards the long side.
RALS chooses to go long or short a stock based on smart-beta pioneers Research Affiliates Fundamental Index (RAFI) weighting methodology. RALS will take long or short positions based on its RAFI weighting relative to its more traditional market cap weighting. Top long holdings including AT&T (T) and Chevron (CVX), top shorts include Google (GOOG).
By going long and short, RALS has lived up to its objectives and has provided a pretty constant market neutral return. Since its inception, RALS has delivered a 2.4% return. While that’s not market-beating, it’s not too shabby compared to other alternatives ETFs. Remember, it’s designed to provide that return in good and bad markets.
Expenses for RALS run 0.95%.
Alternative ETFs To Buy — Credit Suisse Merger Arbitrage ETN (CSMA)
Another alternative ETF that investors may want to tap is the Credit Suisse Merger Arbitrage ETN (CSMA). The exchange-traded note (ETN) follows the market neutral strategy of gaming the M&A market with merger-arbitrage.
When one firm announces that it is planning on buying another, the acquired stock price usually jumps up to within a few cents of the buyout price. That’s due to the risk of the deal not going through. Merger-arbitrage involves buying that bought-out stock and profiting from the difference between the deal offer price and the current stock price.
Snag enough 50 cent or $1 differences and you start to make some serious coin over the long haul.
That’s what CSMA attempts to do — make a few cents of each transaction. Its underlying index is rebalanced every five days, rather than monthly or quarterly, allowing the fund to capture these event-driven gains. What’s better is that M&A deals happen during all sorts of markets. As such, merger-arbitrage has only a 0.25% correlation to the S&P 500.
The only problem for this alternative ETF is that Credit Suisse hasn’t updated the holdings data recently. That could help explain why CSMA has hardly any trading volume. However, if the investment bank gets back to actually reporting its ETNs holdings, CSMA is a big buy — especially considering that the alternative ETF only costs 0.55% to own in expenses.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.