Tag Archives: hznp

Summary ALFA’s hedge was triggered for the first time at the start of last September. Unfortunately, ALFA’s recent performance has been uninspiring. This analysis reveals two likely reasons for ALFA’s underperformance since the hedge was activated. In my Aug. 31, 2015 article entitled ” ALFA: A Market-Beating ETF About To Go Market-Neutral ” I reported that the AlphaClone Alternative Alpha ETF (NYSEARCA: ALFA ) was about to go market-neutral for the first time since its inception due to the S&P 500 closing below its 200-day moving average at month-end. I also commented on the fact that ALFA has had significant wire-to-wire outperformance vis-a-vis the SPDR S&P 500 Trust ETF ( SPY) since inception (see chart below), suggesting that investors in ALFA benefited from being able to “invest with the best.” Recall that ALFA uses a proprietary “Clone Score” methodology in order to aggregate the ideas of hedge funds which have strong historical performance. Alas, ALFA can no longer lay claim to this achievement. Its total return performance since inception now trails SPY by some 15% (55% vs. 70%). ALFA Total Return Price data by YCharts Zooming up to the time frame since the hedge was triggered at the start of September (it was actually activated at the market close on Sep. 2nd) reveals that most of the relative underperformance occurred over the last month. ALFA Total Return Price data by YCharts Reconstructing ALFA’s return without the hedge Recall that when the hedge is triggered (caused by the S&P 500 closing below its 200-day moving average at month-end), ALFA shorts the S&P 500 in an amount equal to the notional value of its long holdings. In other words, ALFA becomes market-neutral. Obviously, given that SPY has (as of last week) reclaimed its 200-day moving average in a brief span of two months, the hedge appears to be ill-timed. Nevertheless, investors in ALFA must be prepared to accept the fact that this hedging strategy will likely underperform in whipsaw situations, such as what was observed over the past two months, as part of the cost of protecting oneself from the worst of bear markets. I wanted to see whether the severe underperformance of ALFA was due to the hedge being triggered, or something else. Therefore, I reconstructed the total return of ALFA since the start of September to visualize what the return profile of ALFA would have been if the hedge had not been activated. We can see from the chart above that had the hedge not been activated, the hypothetical 100% long ALFA (denoted ALFA-L in the graph above) would have returned -1.95% since Sep. 1st, compared to -8.14% for the actual ALFA. While this alleviates the underperformance a bit, it is still far below that of SPY at 8.69%. So what can the rest of ALFA’s underperformance be attributed to? Hedge fund darlings crater In my previous article, I compared the top 10 holdings of ALFA and SPY. ALFA SPY Stock Ticker % Assets Stock Ticker % Assets Apple Inc. (NASDAQ: AAPL ) 7.25 Apple Inc. AAPL 3.75 Valeant Pharmaceuticals (NYSE: VRX ) 7.19 Microsoft Corporation (NASDAQ: MSFT ) 2.03 Celgene Corporation (NASDAQ: CELG ) 2.55 Exxon Mobil Corporation Common (NYSE: XOM ) 1.78 Horizon Pharma plc (NASDAQ: HZNP ) 2.53 Johnson & Johnson Common Stock (NYSE: JNJ ) 1.49 Allergan PLC (NYSE: AGN ) 2.41 Wells Fargo & Company Common St (NYSE: WFC ) 1.46 The Priceline Group Inc. (NASDAQ: PCLN ) 2.36 General Electric Company Common (NYSE: GE ) 1.41 Transdigm Group Incorporated Tr (NYSE: TDG ) 2.22 Berkshire Hathaway Inc. Class B (NYSE: BRK.B ) 1.4 Oracle Corporation Common Stock (NYSE: ORCL ) 2.05 JPMorgan Chase & Co. Common St (NYSE: JPM ) 1.37 Biogen Idec Inc. (NASDAQ: BIIB ) 1.79 Pfizer, Inc. Common Stock (NYSE: PFE ) 1.19 Skechers U.S.A., Inc. Common St (NYSE: SKX ) 1.5 AT&T Inc. (NYSE: T ) 1.15 How have the top 10 stocks of ALFA fared over the past two months? Answer: not pretty. AAPL Total Return Price data by YCharts As can be seen from the graph above, only 2 of ALFA’s top 10 holdings at the start of September, PCLN (+12.44%) and AAPL (+10.55%), have outperformed SPY. There are three massive losers: SKX (-30.5%), HZNP (-41.2%) and VRX (-48.2%). Assuming that the weightings of those three stocks did not change over this time period, they would have contributed a total of -6.24% to the total return of ALFA over this time period. That actually accounts for over half the entire difference between the hypothetical unhedged ALFA-L (-1.95%) and SPY (8.69%) during this time! Now, I am aware that ALFA’s holdings are not static, and hence the above calculation is merely an estimate. Nevertheless, it is clear that ALFA has been hit by a “doubly-whammy” of an untimely hedge, plus the underperformance of hedge fund darlings such as Valeant Pharmaceuticals (see this comically-timed Forbes article ” Hedge Fund Superstars Stocking Up On Valeant Pharmaceuticals ” that was published the day before VRX’s price came crashing down). This illustrates an important fact: even the best and brightest in the industry can sometimes get it (very) wrong. Due to ALFA’s heavy concentration in tech and biotech, one might say that SPY is not an appropriate benchmark for ALFA. The following chart therefore also shows the total return of the PowerShares QQQ Trust ETF (NASDAQ: QQQ ) and the iShares Nasdaq Biotechnology ETF (NASDAQ: IBB ) since the start of September, as well that of another hedge fund-following ETF, the Global X Guru Index ETF (NYSEARCA: GURU ). Unfortunately, ALFA still lags the other four ETFs, although the hypothetical ALFA-L (-1.95%) would have outperformed IBB (-5.12%) and closely trail GURU (-0.37%). ALFA Total Return Price data by YCharts Summary The last two months has not been kind to ALFA holders. Not only was the timing of the hedge unfortunate, but a number of the fund’s largest holdings have suffered tremendously, particularly VRX and HZNP, whose pricing practices have come under intense scrutiny. Will ALFA rebound in the future? I don’t know. As of today, VRX and HZNP are still two of ALFA’s top 10 holdings, at 3.30% and 2.00% weights, respectively, suggesting that ALFA’s future performance may still be somewhat tethered to the fates of those two specialty pharmaceutical companies. Moreover, note that while ALFA is currently in market-neutral mode, this will change if the S&P 500 manages to remain above its 200-day moving average for one more week, as the end of the month is near.