This article suggests CHEP as the only promising long-short ETF, and especially suggests making entry-level investments in promising long-short non-ETF mutual funds soon, before they may become closed or costly for new investors. Listed in order of approximate 2-year NAV growth starting from the pre-downturn market peak in April 2011: DGQIX (23%), RLSFX (22%), MFNDX (19%), ARLSX (17%), BPRRX (16%), SCNAX (14%). (Important new addition discussed in Comments below: PHDG / VQT.) That is an average of about 9% annual peak-to-peak growth vs. about 11% for the S&P. Also, most of these funds lost less than half as much as the S&P during the flashback-inducing 2011 downturn. I.e. if you diversify between six or so of these funds, you can hope to achieve stability comparable to bond funds--with long term gains comparable to full market exposure--and without over-reliance on any sector, management or methodology. A list with performance data is near the bottom of this article.
What is so special about the recommended funds and why act now? As explained in my previous article, "The Best & Less of Long-Short Investing," relatively few long-short mutual funds live up to their prime directive, which is consistently to achieve decent returns along with mild downturns. Also consequently, the few good long-short funds soon tend to close to new investors or increase the management fee for new investors. Therefore I have been suggesting a minimum investment in every long-short fund with a promising 2-year history, and gradually increasing the allocation for those funds that earn your confidence.
Also, these recommendations are already rather well proven. The consistency of their performances indicates they are unlikely to produce nasty surprises, especially if you diversify between six or so. Long-short investing is usually in large part a variation of index investing, with market-inverse checks and balances added according to a consistent protocol. Therefore when well managed, relationship to the S&P can be expected to remain relatively certain. Meanwhile at this time, the future for bond and dividend strategies is relatively uncertain. For at least the next five years, I strongly believe that investing in a diversity of the best (and only the best) long-short funds will prove far more lucrative in proportion to risk than bond or dividend strategies.
Incidentally, DGQIX seems to make every effort to sound warmongering with its name: "AmericaFirst Defensive Growth Fund." However the term "defensive" here is referring to "defensive investing" meaning such things as dividend-paying stocks. DGQIX currently seems to emphasize prescription drugs, cappuccino and beer--although these products do arguably kill and maim more animals, humans and celebrities than the military. Major corporations such as AT&T also often have substantial military contracts and are difficult to avoid with mutual fund investing. My personal ethos is to make as much money as I can, donate 0.1% to Greenpeace, and avoid obvious investments in weapons, uranium, GMO's and tobacco.
At any rate, for those in need of strong but stable growth, it would be difficult to find a more prudent strategy than to divide 2/5 of portfolio among six or so of these funds.
However, the usual DCA and UST considerations still apply. Good long-short funds can be expected to lose much less than average during S&P downturns, but they still lose. If you have substantial unrealized gains from typical market exposure, switching it all now to long-short, just after a record-setting rally, could be a shrewd move. However for large sums not yet invested, times like this call for Dollar Cost Averaging, just in case we soon experience a serious reversal. To do so with minimal transaction fees, I would suggest first making a minimal investment in every desired fund--and then every 2-3 months bring one fund to its full target level.
Also--if we factor in the current trends for defanging Dodd-Frank and congressional brinksmanship and populist resistance for bailouts--the 2008 recession could have been far worse and the next recession could be that worse version of 2008. Therefore I always suggest maintaining 2/5 of portfolio in a ladder of individually-purchased (!) US Treasuries, with emphasis on inflation-protected TIPS. Corporate and municipal bonds and bond funds are not much more lucrative and are much less safe. The best long-short systems are almost as safe as corporate and municipal bonds and can be expected easily to earn twice as much. So it is foolish to add a safety net which is not totally safe for the sake of one or two percent. So far, it has been the federal government that has bailed out municipalities and corporations and not the other way around. In addition, US Treasuries tend to go up in value whenever most other investments go down.
The only things that might (or might not) prove safer than individually-purchased TIPS are either homesteading or goldsteading. As discussed in "The Best & Less of Long-Short Investing," physical monetary metals are often sensible for 1/5 of portfolio, but not more because of the high potential for temporary value swings.
Long-short ETFs are almost all resounding duds. Currently, almost any long-short ETF with a year of history seems to belong to one of two extremes: either totally amateurish or something analogous to designer underwear for sophisticates only.
From the apparently amateur ETF managers we have: (CSMN (4%/2yr), AGLS (2%/2yr), CSMB (1%/1yr), SIZ (1%/1yr), CSLS (-3%/2yr), SSAM (-7%/1yr), MOM (-9%/1yr), LSC (-9%/1yr), BTAL (-14%/1yr). When funds do this poorly during good times, just imagine how poorly they can do during poor times. Perhaps some of them are designed to go way up when the stock market goes down? I doubt it, and if they are, that probably makes them more amateurish. In spite of what is implied in short-selling books, the obvious fact is that even during the worst decades, the S&P posts annual gains thrice as often as annual losses. And due to added complications it is even more difficult short-selling during the gain years than it is long-buying during the loss years. And that is why the short-selling genre for mutual funds was short-lived and replaced by long-short.
Click to enlargeHowever, for Mr. Slick Broker we have the following examples of what I call "S&P optimization funds," or perhaps a better term would be "SAP sucker funds," which are listed as long-short: ALFA and CSM. These are artfully designed to suck one or two percent extra from the SAP 500. Even when this works well enough to pay for the management expenses, it obviously includes losing seriously during a serious recession and is obviously not my idea of long-short investing. Nonetheless, sometimes it is socially shrewd to place most of a market allocation into sapsuckers--if handling a portfolio for an in-law, church congregation, or the average brokerage client. Sometimes the most prudent goal is not to invest prudently, but to minimize boneheaded month-to-month complaints about underperforming the S&P. Just be prepared to dodge a few shotgun rounds during the next major recession. Then during the rebound should be a good time to return from Tahiti to canvas for new clients.
Click to enlargeThere are also two especially quaint new long-short ETPs: ONN (20%/1yr) and its inverse, OFF (-23%/1yr). However these seem to be purposely for the opposite of the usual goals of long-short investing. They are apparently designed for short-term traders who love to shoot the rapids, judging by the volatile 6-year performance of their theoretical basis, the Fisher-Gartman Risk Index.
We do not have much history for passing judgment on long-short ETFs, but no more history seems needed. Almost all of my recommended picks are traditional non-ETF mutual funds. CHEP is the one good long-term long-short ETF and for which details are below.
Why I insist on at least two years of performance history for recommended long-short funds. Some long-short funds were top performers for the past year, but do not even qualify for my list below because they lost more than the S&P during 2011. These often appear to be the results of large management firms slapping on the label "long-short" and assigning a manager with half-baked ideas about what that entails. Needless to say, such so-called long-short funds will not deliver the stability which you have a right to expect. Here below are the performance figures that led to my recommendations.
Included: some long-short funds initiated shortly after the pre-downturn peak in April, 2011.
Excluded: some long-short funds with mild downturns but very low returns.
Excluded: all long-short funds which experienced similarly heavy losses as the S&P--except for GTTMX which is listed as an example because it had the best 1-year returns of all long-short funds. However GTTMX is simply a non-recommended "sapsucker fund" similar to ALFA and CSM.
Also so as to clarify how misleading 1-year returns can be, funds are listed in order of 1-year returns. Also as you can see, most funds show 1-year returns greater than 2-year returns. This is because one year ago we were in a general downturn.
Click to enlargeTherefore RLSFX at the bottom of the list just might turn out to be a special prize, because of its unusual pattern of a high 2-year return and a low 1-year return. Perhaps RLSFX may synergistically enhance a portfolio by showing strength when most other investments are showing weakness. Management changed hands in 2012, but the RLSFX Fact Sheet reports that "The Fund will be managed in a materially equivalent manner to its predecessor."
Click to enlargeMFNDX and BPLSX also deserve special attention for being the only long-short funds on the list showing equally good gains for the first and second years. Therefore these are currently the most consistent performers. This should be no surprise for long-term long-short fund-watchers. BPLSX has done so well that it is closed to new investors. MFNDX is a new higher-cost aegis for MFLDX, in which you might have invested a few thousand a few years ago. MFLDX now shows a $5,000,000 minimum. However for now everyone can still buy MFNDX or MFADX.
To maximize the chances that my recommendations are good, if possible I add a negative handicap to make them look bad. For example, EMNAX actually shows a 5-year gain of 15%. However its 10-year gain is only 8%. Obviously this is not worth investing in. Therefore I reported a 5-year gain of 4% and disqualified it.
Click to enlargeMy figures are also negatively handicapped for CHEP--but CHEP still qualifies. CHEP is the only recommendable long-short ETF and was only created at the end of 2011. Nonetheless after allowing for management costs, its performance matches well with its 12 year old theoretical basis, the Dow Jones U.S. Thematic Market Neutral Value Index. Technically, that index shows a 5-year max-loss of -5% and growth of +42%. However, I recalibrated starting from a peak in 2007. This resulted in -23% and +19% which seem more conducive to a realistic expectation.
Please note that if the Draconian standards applied to my recommended funds were also applied to the S&P fund RYSPX, then it would show a 5-year max-loss of -57% (not -46%) and a gain of 13% (not 25%). Therefore hopefully my recommendations are more likely to prove better than worse. It is somewhat early to feel confident of always achieving strong gains. However, even for recommendations which only have 2 years of history, we can at least feel rather confident that their downturns should remain relatively mild.
In conclusion, I suggest that everyone consider an entry-level investment in each of the following: DGQIX, RLSFX, MFNDX, ARLSX, BPRRX, SCNAX, CHEP. (Important new addition discussed in Comments below: PHDG / VQT.) These are especially likely to prove worthwhile and therefore also especially likely later to close to new investors or to raise the fees and minimums for new investors. Some might prove disappointing. However their primary job is to lose less than most investments during downturns and they are doing this job. If you diversify equally between six or so, it is difficult to imagine things could go seriously wrong.
Please note that BPRRX is receiving a write-in vote mainly because it is operated by the same firm as the now-closed BPLSX which has a 5-year growth of 136%. So far, BPRRX seems not especially profitable. In addition, a 2011 loss of around -11% usually seems to imply around -35% if a fund had existed in 2008. However BPRRX may pleasantly surprise us. For now, I only suggest a minimum in BPRRX, but I do suggest keeping a foot in the door.
Also please note that due to the slight mismanagement risk carried by all mutual funds, I suggest usually investing no more than 1/10 or ideally 1/20 of portfolio with one mutual fund family. That is why it is so important to invest early, before a fund is totally proven. Because when it becomes proven is when it is likely to become closed. You thus might miss a chance for BPLSX-type returns for life, as well as missing a chance for dividing the risk between as many good funds as possible.
Alternatives for restrictive funds. If you have difficulty investing in any of the above picks, screen for all long-short funds by the same family to see if the same strategy is available under a different symbol. Also if any fund that strongly interests you seems totally out of reach, you might phone or email the management firm asking if they or any brokers may offer additional alternatives. However please note for example that if management fees for alternatives are about +1% higher, then you can assume 2-year returns to be about -2% lower.
For example here are alternatives for MFNDX, followed by approximate net management costs: MFLDX (1.8%), MFPDX (1.8%), MFNDX (2.0%), MFADX (2.0%), MFRDX (2.1%), MFCDX (2.7%). Fees and investment minimums also can vary between brokers.
Some online brokers will show all of these variations as unavailable or "institutional." However other brokers can enable investments by individuals. You might consider opening a new online account focused on fund availability. You can quote funds at any investment hub and look for a "Purchase Info" tab. This leads to a list of brokers who can enable "retail" purchases. Fidelity and TD Ameritrade seem to show up rather consistently.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I have made entry-level investments in each of the mutual funds recommended.