Market neutral funds underrated: Zenith

Market neutral funds provide some of the best investment opportunities, but are too often overlooked in the Australian market, according to research and ratings house Zenith.

The group of market neutral funds rated by Zenith returned an accumulated 104.7 per cent in the five years to November 2011 after fees, compared to a loss of 23.3 per cent for the broad Australian market, according to Zenith. In the past 12 months the group returned 20 per cent against a loss of 10.5 per cent for the market overall.

"Market neutral funds not only provide capital preservation and more reasonable participation in alpha that the average long only Australian equity fund but also are among the best performing strategies available," Zenith stated.

Zenith's recommended market neutral funds are the Aurora Fortitude Absolute Return Trust, the Bennelong Long Short Equity Fund, the BlackRock Australian Equity Market Neutral Fund, the Pengana Australian Market Neutral Fund, and the Regal Tasman Market Neutral Fund.

These funds mainly hunt for returns from the large cap end of the market, and despite higher fees and management expense ratios (MER) they provide more exposure to alpha than typical benchmark aware active managers, Zenith stated.

The idea that overall returns will be improved by reducing input costs relates more to industries such as manufacturing but doesn't apply to something like funds management where there is intellectual property involved - so it doesn't make sense to look at the MER rather than the net returns, according to Zenith's head of alternatives, Daniel Liptak.

There is demonstrable portfolio improvement to be had from allocating to market neutral strategies as part of the equity allocation, a strategy used by large international pension funds who are increasingly allocating to the strategy from the passive and active equity buckets, he said.

The trend will also increasingly be taken up by self managed super funds and family office portfolios in Australia, he said.

Financial advisers and institutional managers who deal with market risk and peer risk may be more comfortable losing a lot of money in a conventional way when everyone else is losing money, than losing a small amount of money in an unconventional way, because it is easier to justify and advisers will be worried about losing clients if they lose money in an unconventional way, he said.

Also slowing the take-up of market neutral strategies is the issue of access, because many products are not designed with a retail investor in mind.

Financial advisers are also heavily reliant on platforms which have certain liquidity requirements which are not always met by market neutral strategies, he said.

There is also only a finite capacity for these funds in Australia and a lot of that is being taken up by overseas funds of hedge funds, he added.