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Jul 18 2012

2nd Quarter 2012 Commentary - ASTON/Lake Partners LASSO Alternatives

2nd Quarter 2012

“Risk On”/”Risk Off”

After rising steadily throughout the first quarter, domestic equities (as represented by the S&P 500 Index) faced increasing downward pressure throughout April and May due to an about-face in investor sentiment before rebounding in late June. Indeed, the S&P 500 was down 9.6% from its peak on April 2 to the low of June 4. It is instructive to recall the month-by-month swings between “risk-on” and “risk-off” sentiment, because they made the investment process so difficult for money managers of all types.

In early April, the S&P 500 dropped 3.5% in reaction to: 1) clear signals from the Fed that additional quantitative easing would not be considered for the foreseeable future; 2) deteriorating economic and fiscal conditions in Spain, highlighting that the European sovereign debt crisis was looming large on the horizon once again; and 3) news of lower than expected growth in China. Equities managed to recover during the second half of the month as solid corporate earnings reports offset softness in new data on housing, manufacturing, and employment.

But the S&P 500 slumped sharply again in May as the doubts about the global economy and the outlook for Europe that began to weigh on the markets during April turned into increasingly serious apprehension. The success of anti-austerity parties in European elections unsettled investors leading to increased worries about a break-up of the euro. The subsequent failure to form a governing coalition in Greece compounded the uncertainty among investors. Even more ominous for Europe, Spain’s financial system deteriorated alarmingly, heightening fears of contagion. Concerns were compounded by disappointing data on China’s economy and a very weak jobs report in the U.S. 

Doubts about the global economy intensified in June as a variety of statistics indicated that growth was slowing, especially in the U.S. Nevertheless, the S&P 500 managed to gain 4.1% as those economic concerns were more than outweighed by relief over political developments in Europe and accommodative monetary policy steps. June was very volatile, though. The S&P 500 sank more than 2% on the first day of the month then steadily climbed through June 19 as investors were cheered by a slew of positive macroeconomic and political news overseas. The relief was quickly interrupted by deteriorating economic data, a spate of bank downgrades, and fresh worries about Spain’s fiscal condition. The index then capped the month with a brief rally as the Fed extended its Operation Twist and the EU surprised investors with a plan to recapitalize Spain’s banks and move closer towards financial union.

Given this background of economic weakness and general risk aversion, it is not surprising that the Barclays U.S. Aggregate Bond Index posted a gain of 2.1%. The 10-year US Treasury yield fell from 2.2% at the end of March to an historic low of 1.45% at the beginning of June, before edging back up to 1.65% at month end as investors ventured out of this perceived “safe haven.”

Mixed Results

Amid this turmoil, the Fund slipped 1.6% during the second quarter, outperforming its HFRX Equity Hedge Index benchmark but slightly lagging its Morningstar peer group. The portfolio’s core long/short manager benefited from a defensive posture and finished with a gain for the quarter. Credit-related strategies also had mixed results, but with more muted returns. High yield was particularly productive, although it tended to move in sympathy with the equity markets. In contrast, managers with Emerging Market exposures experienced more volatility.

Not surprisingly, long-biased equity managers were down. The Fund’s global-oriented manager was especially exposed to the downside, but this has been a very small allocation in the portfolio.

As a group, merger arbitrage managers tended to move sideways in a relatively narrow range for much of the quarter. Despite a global slowdown in merger and acquisition (M&A) activity, managers continued to find investment opportunities in this strategy, despite modest spreads.

Global macro and long/short commodities allocations faced a difficult, fitful trading environment. The portfolio’s global macro manager fulfilled its low volatility objective but was still down for the quarter. Quantitative commodity strategies were out of sync with the rapid trend reversals during the period, especially in Energy.


Due to the increased volatility of financial markets, the unpredictable impact of potential public policy moves, and the increasingly defensive stance of some of our core managers, we have allowed the Fund’s net equity exposure to move somewhat lower to approximately 32% from the 35% range it had been at for several quarters. This is still near the mid-point of our net long equity exposure range of 20% to 50%. The overall structure of the portfolio, however, remained largely stable, the exception being the target allocation for merger arbitrage increasing from 10% to 15%. A fund with an edge in small-cap M&A situations was added in order to diversify and enhance potential returns.

Elsewhere, equity-oriented funds accounted for 48% of the Fund’s assets at the end of June, little changed from March. Although this is the largest single strategy allocation in the portfolio, it is important to note that this broad category encompasses a diverse mix of Long Bias, Hedged, US Multi-Asset Hedged, and Global Hedged Equity strategies. We continue to focus allocations on core managers with relatively stable risk/return characteristics.

The combined allocation to Hedged Credit and Strategic Fixed Income allocations continued to be targeted at nearly 25% of the portfolio. Of the two sub-strategies, Hedged Credit has been the larger allocation reflecting its improved valuations and solid fundamentals. Strategic Fixed Income funds tend to encompass a broad range of opportunities, ranging from US mortgage-backed securities to Emerging Market debt. To enhance diversification, the high-yield allocation was trimmed and a global fixed-income fund was eliminated due to volatility. The proceeds were redeployed to funds with lower volatility profiles.

The target allocation for Global Macro and Commodities was approximately 11%. Historically, such strategies have tended to be less correlated to other strategies, especially during market corrections. During the quarter, we increased the allocation to our global macro manager and eliminated managed futures, a strategy that has been particularly challenged by frequent market reversals.


As noted in our previous report, the pendulum of investor sentiment has swung back and forth between two perspectives ever since the global credit crisis of 2008. The negative side has focused on the debt crisis in Europe, doubts about the resilience of China, and fears of tepid growth and policy paralysis in the U.S. The positive side has reflected strong corporate earnings and efforts by central banks to provide stimulus. In the first quarter of this year, the positive side prevailed. Subsequently, the negative side dominated, until June, which was a microcosm of investor uncertainty despite the fact that equities finished the month with a gain.

This “pendulum” of market volatility is likely to continue to gyrate back and forth for the foreseeable future precisely because all of the policy and political issues that have dogged investors remain unresolved. A comprehensive solution to Europe’s debt problems and financial union remains elusive. The prospect of fiscal retrenchment and political gridlock in the U.S. is likely to intensify in the run up to the elections. China’s economy continues to slow, although policy makers have stepped up their response.

Longer term, the outlook is relatively positive, as the global economy is expected to “muddle through,” as corporate cash flows and balance sheets in the U.S. are strong, while equity valuations generally are fair. It is the near term that is challenging. We therefore are maintaining a diversified mix of strategies within the LASSO program, comprising different degrees of correlation and market sensitivity. We believe that this approach is well positioned for the Fund to produce attractive risk-adjusted returns over time. 

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, 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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