HANOVER, NH (ETFguide.com) - On March 26th's CNBC's Closing Bell, Adam Patti, the CEO of IndexIQ, gave his opinion on hedge fund regulation, "There has to be a lot more transparency for the portfolios and something has to be done about the lock-ups." It's curious talk from someone who claims to have created a "hedge-fund-like" ETF, namely the IQ Hedge Multi-Strategy Tracker ETF (NYSEArca: QAI).
For starters, isn't non-transparency and lock-ups what make hedge funds effective?
If a hedge fund decided to short IBM, Partner B would never approve of Partner A telling his golf buddy that the fund is shorting IBM. The friend could use the information against the fund. Though the partners naturally want to know what the fund is doing (who wouldn't?) they'd be nervous about a manager who told them.
As for lock-ups, their purpose is not to keep fee-generating money in the fund. Lock-ups protect the partners from hurting themselves. How could a hedge fund succeed if it planned a massive year-long short of IBM and some partner decided to pull his money out a week later?
Ask any hedge fund professional, and they'll tell you mutual funds or ETFs will never be able to imitate most hedge fund strategies. Again, ETFs can't guarantee they'll have capital when they need it and they can't adaquately protect their strategies (holdings) from public viewing.
My original intent with this article was to explore QAI's investment objective (perhaps I'll revisit this later). But, while reading their filings, I discovered problems.
My first question was about fees. Are prospective shareholders given an accurate estimate? The prospectus lists a Management Fee of 0.75% with "Acquired Fund Fees and Expenses" at 0.34%" giving the fund a total expense ratio of 1.09%.
Checking Morningstar I came to the same figure, but noticed that two of the funds in their component list are missing their expense ratios. By visiting the provider sites of PowerShares DB Commodity Index Tracking Fund NYSEArca: DBC) and ProShares Ultra Short Euro (NYSEArca: EUO) I found them. I then double-checked the expenses for the iShares Barclays Aggregate Bond Fund (NYSEArca: AGG). Re-doing the math I estimated pro-rata expense ratio of 0.36% and a total expense ratio of 1.11%.
Shouldn't estimates be created from the full range of the funds investment policy? Most likely, the estimates, based on the current heavy bond-ETF allocation is understated. When the fund changes its strategy what will its acquired fund fee expenses look like? Since the fund follows a quantitative system, they should have a reasonable idea.
Hedge fund strategies are very complex and few succeed without a strong track record. Sal Bruno, the Chief Investment Officer, and Greg Sivin, VP of Product Development. both joined IndexIQ after a year managing the DWS Growth & Income Fund. From their own annual report discussion for the 12-month period ended September 30, 2006, they wrote "DWS Growth & Income Fund Class A shares produced a total return of 8.50% for the 12 months ended September 30, 2006. The fund's return was below that of its benchmark, the S&P 500 Index, which had a return of 10.79%." How can they succeed with a hedge fund like ETF when they can barely keep up with the S&P 500?
But one of the most worrisome aspects of the IndexIQ fund is its ProShares Ultra Short Euro (NYSEArca: EUO) component. The underlying ETF had assets, as of QAI's launch on March 25th, of $43 million. Yet according to the prospectus,"The Underlying Index Components that are eligible for inclusion in the Underlying Index include domestic ETFs and ETVs that have at least $50 million in assets under management."
In this climate of liquidity fear, it is odd that IndexIQ seems to have broken its own liquidity rules and invested in EUO.
Before IndexIQ's staff comments on the hedge fund industry's transparency, they may be well advised to review the accuracy of their own disclosures.
Max Rottersman is a founder of FundAnalyze. His opinions don’t necessarily represent the views of ETFguide.com or Yahoo Finance.
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