1st Quarter 2013
The Fund sharply lagged the broad market S&P 500 Index during the first three months of 2013 as equities rose strongly. This is consistent with the performance expectations of a hedged portfolio, which by definition limits upside returns—particularly when the market is up more than 10% in a single quarter, as it was during the first quarter—in exchange for the potential of downside protection. Our strategy of owning put options to help guard against a significant decline in the equity market acts to decrease returns during a sustained market advance. The Fund’s results during the period were more in line with its hedged peers, though it still trailed modestly.
The impact of our hedging strategy was evident in the performance of the portfolio’s underlying holdings. The equity-only portion of the portfolio only slightly lagged the S&P 500, showing that the hedging strategy was the primary reason for the underperformance relative to the broader market during the quarter.
In an effort to decrease the drag that selling calls and buying put options has on results, we have become much more aggressive in rotating the portfolio out of positions, such as call options that are selling close to intrinsic values, that no longer are attractive. In addition, we have deceased the size of the put positions in the portfolio in absolute dollars given the current low valuation of those options. In place to help guard against a significant market decline, we think we are now able to buy the same amount of potential downside protection for half the price of what we thought was needed last year. The result of these changes was evident in March, when the Fund still lagged a rising S&P 500, but the gap narrowed considerably.
In regards to the underlying equity positions, the Fund was overweight Consumer Discretionary, Technology, Telecomm, and Utilities at the end of March. It was underweight Energy, Consumer Staples, Financials, Healthcare, and Materials. Given our bottom-up, fundamental approach to stock-picking, the common thread in this positioning was a function of valuation as measured by cash flow and current yield. As of the end of the quarter, the underlying holdings in aggregate delivered a greater yield than that of the S&P 500 while trading at a significantly cheaper price based on company cash flows than the index.
Note: By selling covered call options, the Fund limits its opportunity to profit from an increase in the price of the underlying stock above the exercise price, but continues to bear the risk of a decline in the stock. A liquid market may not exist for options held by the Fund. If the Fund is not able to close out an options transaction, it will not be able to sell the underlying security until the option expires or is exercised. While the Fund receives premiums for writing the call options, the price it realizes from the exercise of an option could be substantially below a stock’s current market price. Premiums from the Fund’s sale of call options typically will result in short-term capital gain taxes, making it ill suited for investors seeking a tax efficient investment. The use of derivatives by the Fund to hedge risk may reduce the opportunity for gain by offsetting the positive effect of favorable price movements. There is no guarantee that derivatives, to the extent employed, will have the intended effect, and their use could cause lower returns or even losses to the Fund.
Before investing, consider the Fund’s investment objectives, risks, charges, and expenses. Contact 800 992-8151 for a prospectus or summary prospectus containing this and other information. Please, read it carefully. Aston Funds are distributed by Foreside Funds Distributors LLC.