CIO explains new ETF's optimization strategies for weighting portfolios and outlines its tracking of hedge fund returns. Plus, how it goes short.
Salvatore Bruno is chief investment officer at IndexIQ Advisors LLC. Prior to joining the asset manager and index provider, he was a portfolio manager at Deutsche Asset Management. Before that role, Bruno was the head of advanced quantitative research at DeAM.
On Thursday, IndexUniverse's Murray Coleman caught up with the busy CIO traveling in Philadelphia. Among other topics, they discussed the firm's launch of the IQ Hedge Multi-Strategy Tracker ETF (NYSE Arca: QAI), the first exchange-traded fund to mimic hedge fund strategies. (See article here.)
IU: Is the new ETF taking a totally passive approach?
Bruno: It's fair to say that this is a rules-based methodology. But it does rebalance more than a traditional passive investment. It rebalances every month. But it's passive in the sense that it doesn't incorporate subject views on where assets should be allocated.
IU: Does the ETF follow a similar index as the mutual fund created by IndexIQ last year?
Bruno: It is similar in terms of methodology. But given the differences in the regulations between a 40-Act mutual fund and an ETF, there are some slight differences. But the underlying processes are the same.
IU: You've created essentially six different subindexes based on different hedging strategies. How do you decide weightings for each subcategory?
Bruno: The weightings are a result of a proprietary rules-based optimization process. We look at trailing returns of each of the six strategies. And we compare the level of returns, volatility and correlation of each of those strategies to a broad hedge fund index. That broad index is the CS Tremont Non-Investable Hedge Fund Index. Then we find the best combination of the strategies to achieve our objectivity of high returns, low volatility and high correlation to hedge funds.
IU: What are the weightings to each strategy in the ETF now?
Bruno: The weights are approximately 33.33% each in equity market-neutral, fixed-income arbitrage and event-driven strategies. We also have a -16.67% on long-short, and the remaining weights are split among global macro and emerging markets. The specific ETFs we're holding and their weights are posted on our Web site daily. [See table below for QAI's complete holdings.]
IU: How are ETFs used to represent different asset classes held by hedge funds?
Bruno: We're looking for ETFs that meet minimum liquidity and asset size requirements to make sure they're truly investable. Then, we look at asset class exposures and risk premiums of hedge funds. So we're trying to find the optimal ETF or combination of ETFs that match up the closest to those asset class and risk premium exposures of hedge funds.
IU: Does the ETF take on similar characteristics of a 130/30 hedge fund?
Bruno: The ETF will not because it doesn't have any short positions in its portfolio. We do, however, use inverse ETFs to generate short exposures. That's different from the mutual fund, which actually shorts securities and uses proceeds from those transactions to go long. This is a prime example of the difference in implementing basically the same strategy but in different vehicles—a mutual fund compared to an ETF.
IU: In a nutshell, what exactly are you trying to deliver with this new ETF?
Bruno: We're trying to provide a vehicle that will give investors access to risk-adjusted returns similar to those of hedge funds. We're also trying to provide similar levels of diversification to broad equity markets.