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Wednesday, February 19, 2014

When an Index Becomes the Alts Manager

News summary by MFWire's editors

So, a growing number of financial advisors get it when it comes to alts. They get it. They know that there could be something to using alts in some portfolios, i.e. fighting against potential downside in stocks or bonds or overseas markets.

The problem is that a lot of these intermediaries, while they get the basic premise behind alts, don't trust the Hocus Pocus, investment rocket science or (heaven forbid!) the strategies formerly used by the products-that-should-not-be-named, hedge funds.

In an attempt to ease the trust issues of these advisors, Direxion Funds [profile] is offering alts products that get rid of the wizard behind the curtain. The idea is that advisors would be more comfortable with alts strategies if they were codified into some kind of index or formula that would eliminate any potential human high jinks.

"We are telling clients that there is a different way to get exposure to alts -- low cost, completely transparent and rules-based that follows specific methodologies and strategies. You know what is under the hood and where you are positioned at any given time," Direxion's alts head Ed Egilinsky told MFWire.

The idea behind these products, be it Direxion's alts funds or tradable high-leverage ETFs, what have you, is that asset allocators would be more likely to add these products to their investing arsenals if they can see all of the underlying nuts and bolts.

Another idea favored by Direxion is this: Advisors would be more likely allocating to high-finesse markets, like convertible bonds, if there were products that could replicate these assets, without the liquidity issues.

Case-in-point: Direxion's newly-launched synthetic convertible strategy funds. The funds come in two flavors: the Direxion Indexed Synthetic Convertible Strategy Fund (DXCBX) (for bulls) and the Direxion Indexed Synthetic Convertible Strategy Bear Fund (DXCVX) (for bears of course).

Here is the tech-speak for the funds: "The Direxion Indexed Synthetic Convertible Strategy Fund seeks to generate investment results, before fees and expenses, that replicate the performance of the QES Synthetic Convertible Index. The Direxion Indexed Synthetic Convertible Strategy Bear Fund attempts to obtain investment results mirroring the inverse of the performance of the same index, before fees and expenses."

The index itself was "created to capture high correlation and similar overall returns to the convertible bond universe, and attempts to achieve its goal by investing in liquid market instruments that share comparable characteristics with convertible bonds. The index, which has the flexibility to rebalance weekly, first analyzes aggregate data to determine how sensitive prospective investments are to factors such as changes in credit spreads, interest rates and equity prices. Then, it builds a portfolio composed of equity, fixed income and credit investments to generate synthetic exposure to those asset classes, with potentially greater liquidity than an actual convertible bond portfolio."

What does all of this mean? Investors can replicate the convertible bond market without actually needing to own these securities and deal with the hassle of trading.

Egilinsky is pretty sure these products are the first of their kind.

"We are trying to provide broader exposure to the universe without the direct exposure of the underlying assets. These are products that are transparent, liquid and have breadth of capacity. If advisors want to go in and out of this space, they can. We also have a bear version if they want to hedge," he said.

The products also straddle the two primary target markets Direxion is courting: buy-and-holders who want to diversify beyond plain vanilla stocks and bonds, as well as advisors who have opinions about the market and want to take advantage of opportunities by trading these products.

Egilinsky and his crew aren't stopping there. They intend to unroll more products this year, as well as hire more people to sing the song of these products to intermediaries such as the wirehouses, regionals, independents and RIAs. They are also doing work in the direct sector as well.

"We have been very busy and will continue to be. Whenever we see an opportunity to differentiate ourselves, we'll take it," he said. 

Edited by: Tommy Fernandez


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