(PUB) Morningstar FundInvestor

9

Morningstar FundInvestor

August 2 013

complex investment. Poor, uninformed buyers did little research at best and landed in a low-cost, transpar- ent, simpler (if not simple) investment. The 2008 finan- cial markets delivered the massive bear market that the high-cost instrument was designed to resist and the low-cost instrument was not, dealing the low-cost investment such losses that the U.S. Senate held hearings on the subject in 2009 . Yet the easy winner since the middle of last decade has been the low- cost instrument. Funny how that works. Not only did target-date funds outgain HFOF s over that stretch on paper, but they also were better used by their owners. Cash flows into target-date funds have been steadily positive, year after year. As a re- sult, Morningstar Investor Returns (see link in the PDF edition of this issue for an explanation of that cal- culation) for target-date funds are higher than the funds’ actual returns—that is, there was more money invested in target-date funds when they were rising (post- 2008 ) than when they were sinking ( 2008 ). Not so much with HFOF s. They received inflows in the mid- 2000 s following good returns, had poor absolute and relative returns when they were at peak assets, and are now leaking cash. It’s not just HFOF s. Take a look at the recent net flows into systematic-futures hedge funds (some- times called managed futures), accompanied by the category’s average rate of return that year and the performance of the S&P 500 .

An almost perfect record of inept tail-chasing. Money flowed into systematic-futures funds in 2006 . The funds trailed stocks that year. The following year, as money was leaving, the funds beat stocks. The next year, presumably because of 2007 ’s good perform­ ance, cash flows reversed and money came back into the category—which had a career year, gaining 18% even as everything else went down. (The year 2008 was the lone exception to ineptitude.) Follow- ing this bang-up showing, cash flows were positive three years running, even as futures funds badly trailed stocks. Finally, after suffering through that long period, investors started to give up on the category, yanking money out last year and again so far this year. These are not isolated incidents. Hedge funds in theory are held for diversification, but in practice they tend to be purchased and evaluated on performance. Because they behave quite differently from other assets, they frequently lag the rest of a portfolio’s holdings—thereby inducing the frustrated institu- tional or high-net-worth investor to swap that hedge fund for another flavor. Hedge funds, in addition to being expensive, are deucedly difficult to own. It doesn’t make much sense to me that becoming wealthier and more informed leads to worse investment results ... but with hedge funds, that does seem to be the case. œ Contact John Rekenthaler at john.rekenthaler@morningstar.com

Systemic Futures Hedge Funds %

Year

Inflow ($Bil)

S&P 500 %

2006 2007 2008 2009

7.20

8.66

15.79

-1.10 2.40 0.80

14.16 18.10

5.49

-37.00

1.65

26.46

2010

2.10

11.55 -6.28

15.06

2011

11.90

2.11

2012

-3.70

-1.07

16.00 15.37

2013 (YTD May 31)

-2.10

0.58

Source: Morningstar data.