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Oct 17 2011

3rd Quarter 2011 Commentary - ASTON/Lake Partners LASSO Alternatives

3rd Quarter 2011

The third quarter proved to be a very challenging period as markets experienced sharp dislocations and elevated levels of volatility, resulting in exaggerated moves to the downside. In particular, the broader market (as measured by the S&P 500 Index) dropped more than 13%, while the Fund declined significantly less as it outperformed its HFRX Equity Hedge Index benchmark. As an asset allocation solution for alternative strategies in a liquid format, the Fund aims to provide diversified returns with less volatility than conventional markets. It was able to do just that during the third quarter.

The Fund’s core long/short and long-biased managers outperformed the S&P 500 during the quarter, but returns varied widely depending on their exposures. Not surprisingly, managers who were more hedged or defensive, or who had an emphasis on eclectic stock picking in their portfolios, tended to fare relatively better. Nevertheless, any net long equity exposure meant that returns were still negative.

Credit-related and strategic fixed-income strategies also had mixed but negative results. Some holdings in global fixed-income managers were adversely affected by Emerging Market exposures, while high-yield oriented managers and opportunistic fixed-income managers with substantial corporate exposure were hurt by yield spread widening. A move to reduce exposures in these areas during the quarter helped to limit the impact on the overall portfolio, however.

Returns for merger arbitrage related managers were negative for the quarter due to residual equity exposure, though much less negative than for the broader market. Increased merger & acquisition (M&A) activity has helped improve the outlook for the strategy, but modest spreads continue to limit the upside. As a group, managed futures and global macro allocation strategies provided positive and relatively less correlated returns.

August Revisited

In accordance with our risk management guidelines, we adjusted the portfolio's exposure to various alternative strategies during the third quarter in order to limit downside results. Much of this activity occurred during August, which was a particularly gut-wrenching ride for equity markets. A review of the events during that month is instructive:

The market plunged during the first six trading days of August as investors reacted with dismay to Washington’s budget and debt ceiling deal, Standard and Poor’s downgrade of the US from AAA to AA+, worsening economic data, and signs of credit contagion among many of Europe’s weakest economies. High frequency trading also appeared to exacerbate the downside volatility. Stocks then managed a brief but sharp rally before those gains quickly gave way to a retreat that sent the equities back down near their lows of the month.

As soon as the pervasive feeling of panic reached a peak, however, the market began to rise steadily, climbing the proverbial “wall of worry” with strong gains during the last 10 days of the month. Nevertheless, the S&P 500 finished the month down more than 5%. Global equity markets followed similar patterns, but with even greater losses, as the MSCI EAFE Index dropped 9%. So-called “safe haven” assets continued to benefit from investor risk aversion, continuing a trend that started in May. The Barclays Capital Aggregate Bond Index rose in August as the yield on the 10-year Treasury set a new low for the year, while gold spiked briefly above $1,900 for the first time on August 22 (before retreating to a range around $1,640 in late September).

With this as a backdrop, a number of the underlying funds in which the Fund invests were able to avoid much of the downside, while others were affected to one degree or another even if they were relatively hedged. In order to limit the Fund’s month-to-date drawdown in August, we substantially reduced exposures in several steps during the first two weeks of the month. These steps involved eliminating or reducing positions that were especially volatile or vulnerable (as detailed below). We cautiously re-deployed some of the cash towards the end of the month. Having entered the quarter with a defensive reserve of 15%, we finished August with a cash balance of nearly 23%. By the end of the quarter cash comprised nearly 24% of assets.

Portfolio Positioning

Equity-oriented funds accounted for 46% of portfolio assets by the end of the quarter. It is important to note, however that this broad category encompasses a diverse mix of long-biased, hedged, multi-asset and global strategies. Several allocation changes were made, including the elimination of several long-biased managers that had become especially volatile and increasing allocations to core managers with more stable risk/return characteristics.

Hedged credit and strategic fixed-income allocations were scaled back from nearly 22% at the end of June to less than 10% by the end of September. In fact, this reduction began prior to the quarter, when we became concerned that yield spreads would reverse course and continue to widen. Consequently, allocations to funds with a focus on US high-yield and corporate credit were cut in half in June and then eliminated in early August. We also reduced allocations to strategic fixed-income funds, but to a lesser degree—from slightly less than 10% on June 30 to a bit more than 7% by September 30. The funds in this area tend to take a global approach, long and short, to a broad range of opportunities, ranging from US mortgage-backed securities to Emerging Market debt. While some of the underlying funds came under pressure during the quarter, opportunities have been created by the nearly one-sided flight to safety in fixed-income.

Allocations to Hedged Futures and Commodities strategies provided access to trend following, quantitative, and fundamental trading-oriented strategies in a wide range of financial futures and commodities encompassing equity indices, fixed-income, interest-rates, currencies, metals, energy, and industrial and agricultural commodities. Historically, such strategies have tended to be less correlated to other strategies. This became less apparent during the second quarter of 2011, when markets turned more erratic. Consequently, we trimmed this allocation from 10% at the beginning of April to 7% by the end of June. We then re-built the allocation to 10% by the end of August as managers were able to capitalize on new trends, especially in currencies and interest rates. One underperforming holding was also eliminated.


We have placed an increasing emphasis on caution, partly in response to the erratic behavior of markets, and partly in response to the elevated risks associated with policy missteps. These risks became ever more apparent throughout August and September. Investor confidence was seriously undermined by a combination of factors, including Washington’s inability to come up with a comprehensive budget or debt plan, and Europe’s lack of political consensus on how to effectively address the fiscal plight of Greece and other peripheral countries and preventing credit contagion in Spain and Italy. Worries have been compounded by continued deterioration in economic data. Nevertheless, the corporate sector generally remains flush with cash, equity valuations have improved, and despite the exposure of European banks to sovereign risks, the financial system is on a much sounder footing than it was in 2008

Given that judicious risk management is always our top priority our current target is to keep a cash cushion of approximately 20% in the portfolio, and to keep net long equity exposure less than 35% for the foreseeable future. As opportunities improve, though, we will be prepared to get the Fund more invested. 

Lake Partners, Inc.
Greenwich, 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 includes 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, carefully consider the fund’s investment objectives, risks, charges and expenses. Contact 800 992-8151 for a prospectus containing this and other information. Read it carefully. Aston Funds are distributed by BNY Mellon Distributors Inc.


Aston History (212 KB, PDF)
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