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Oct 15 2013

3rd Quarter 2013 Commentary - ASTON/Lake Partners LASSO Alternatives

3rd Quarter 2013

Although the broad market S&P 500 Index posted a solid gain of 5.2% during the third quarter, it took investors on a rollercoaster ride to get there. Equities started the period with a strong rally in July driven by reassurances from Federal Reserve Chairman Ben Bernanke that monetary policy would remain accommodative as well as tepid economic data that presumably gave the Fed more leeway to delay tapering. But equities spent much of August in the doldrums as investor sentiment became clouded by a combination of policy, economic, and geopolitical concerns. Chief among these was the ongoing uncertainty about whether the Fed would begin to taper its pace of purchasing bonds combined with mixed economic news and the prospect of military action by the U.S. against Syria.

The S&P 500 did another turnaround early in September only to finish the month on a downswing. The inflection point was Bernanke’s press conference on September 18, when he announced that the Fed would not be tapering its asset purchases, despite previous signals of his intent to do so. The market reversed as investors absorbed the implications of the Fed’s decision, which was that the U.S. economy was weaker than expected. Sentiment also became increasingly sour as the budget battle in Washington intensified.

Fixed-income conditions were unsettled for much of the quarter as well. The yield on 10-year Treasuries trended higher on tapering concerns, peaking in early September before the market reversed course, pushing the yield back down to nearly where it began the quarter. One bright spot in the credit markets was the U.S. high yield market, which rallied more than 2%. 

Rough Hedges
The Fund posted modest gains but lagged its HFRX Equity Hedge Index benchmark during the quarter. Equity-oriented allocations accounted for the bulk of the portfolio’s return. In particular, long-biased, multi-asset, and opportunistic funds delivered solid gains. A holding in a highly-hedged core manager was negative for the period due to challenges on the short side of the portfolio, which was focused on speculative small-cap issues that outperformed the broad market significantly, especially during the September rally. A highly-hedged Emerging Markets manager and a long-biased Emerging Markets manager underperformed in the global arena as well, but the impact of those holdings was minimal given their relatively small allocations.

Long/Short Fixed Income strategies generally stabilized during the quarter, as the aftereffects of the correction in the second quarter dissipated. Returns were muted, however, except for managers with substantial exposures to U.S. high yield bonds, which as noted earlier enjoyed a solid rebound.

The Fund’s sole merger-arbitrage manager succeeded in generating steady, positive results as corporate events tended to be more relevant to the portfolio than market action. The holding in a convertible arbitrage fund displayed a relatively stable risk/return profile for much of the quarter as well. Despite the fund’s residual equity exposure, it avoided much of the impact from the market selloffs in August and late September.

Finally, a holding in a Global Macro strategy made limited progress. The fund finished the quarter flat, as its portfolio of diversified and eclectic sub-strategies, which cover multiple asset classes, moved in a narrow sideways range for much of the period. 

Portfolio Overview
Due to the ongoing potential for renewed volatility in the financial markets, we maintained the Fund’s net long equity exposure in the 30% range during the quarter. This was supported by the relatively defensive stance of some of the portfolio’s core holdings, and the continued inclusion of non-equity related strategies.

The Fund’s strategy allocations were adjusted marginally over the course of the quarter. A diverse set of Long/Short Equity allocations continued to represent the core of the portfolio, finishing the quarter at 52.5% of assets—somewhat higher than the 48% allocation at the end of June. We increased the allocations to a multi-asset manager and a long-biased manager, while initiating a small position in a hedged manager.

We trimmed the allocation to Long/Short Fixed Income from just under 27% to 23% during the quarter, which was a further decrease from the 32.5% allocation at the end of March. Third quarter activity involved trimming one fund with a focus on mortgage-backed securities and eliminating a small holding in a strategic fixed income fund.

Conversely, the Arbitrage allocation increased from 12.5% to 17.5% by the end of September. We significantly increased the Fund’s stake in its merger-arbitrage fund, which has been able to add value by emphasizing smaller transactions. This fund has historically exhibited a consistently conservative risk/return profile, which has supported its role in the portfolio as a source of relative stability. Increased deal activity also has been positive for the strategy. 

For much of the year, market trends have demonstrated how liquidity and momentum can be powerful forces. Volatility within equity markets, as measured by the CBOE Market Volatility Index (“VIX”), diminished to levels not seen since before the global financial crisis. The few spikes that have occurred were relatively limited and brief. Underpinning these trends was that the central banks of developed economies had played their cards well—quantitative easing and accommodation trumped fiscal constraints and slow progress on structural reform.

As we have noted in previous reports, however, the “deck” still included a variety of “wild cards,” such as the “tapering” of quantitative easing (QE) by the Fed as well as dour economic news. When the “luck of the draw” changed for investors in May and June, confidence turned to concern, and in some markets ebullience turned to outright panic. Equities subsequently rallied in July, only to slip again in August. With the uncertainty swirling around the political standoff in Washington, volatility has reemerged as an important factor.

We think the longer-term outlook is relatively positive, as the global economy is expected to “muddle through” with US corporate cash flows and balance sheets strong, and equity valuations generally fair. In the near term, though, market trends remain subject to policy and political uncertainties. Consequently, renewed bouts of volatility would not be surprising. We therefore are maintaining a diversified mix of equity-oriented, credit-oriented, arbitrage, and macro strategies, with different degrees of correlation and market sensitivity. Thus, we believe that the Fund is well positioned to execute our goal of producing attractive risk-adjusted returns over time. 

Lake Partners, Inc.
Stamford, Connecticut

Note: The Fund is a fund-of-funds, and by investing in the Fund you incur the expenses and risks of the underlying funds it invests in. Potential risks from exposure to the underlying funds include the use of aggressive investment techniques and instruments such as options and futures, derivatives, commodities, credit-risk, leverage, and short-sales that taken alone are considered riskier than conventional market strategies. Use of aggressive investment techniques including short sales may expose an underlying fund to potentially dramatic changes (losses) in the value of its portfolio. Short sales may involve the risk that an underlying fund will incur a loss by subsequently buying a security at a higher price than the price at which the fund previously sold the security short.

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.


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