The introduction of short funds onto the ASX in recent years has given investors useful new tools to manage their risk exposures over time. That said, as this note will demonstrate, while the BetaShares suite of short funds aims to meet their explicitly stated investment objectives of providing returns that are negatively correlated with the market, by their nature, the degree of negative correlation will vary over time – especially if short funds are held for extended periods.

The BetaShares Short Funds

BetaShares maintains three short funds which aim to provide investors with a simple way to profit from, or protect against, share market declines.  This objective is sought to be achieved by investing each Fund’s assets into cash and cash equivalents and then selling relevant equity index futures so that each Fund’s returns is expected to be negatively correlated with that of a relevant share market index.

In the case of the BetaShares Australian Equities Bear Hedge Fund (BEAR), and the BetaShares Australian Equities Strong Bear Hedge Fund (BBOZ), ASX SPI 200 future contracts are sold seeking to achieve negative return correlation with the the Australian share market.  The BetaShares US Equities Strong Bear Hedge Fund (BBUS), by contrast, sells S&P 500 future contracts seeking to achieve negative correlation with the US share market.

The Funds also differ in terms of the degree of negative market correlation pursued.  BEAR, for example, sells future contracts so as to maintain a short market exposure that can vary between 90% to 110% of the Fund’s net-asset value on any given day.  Therefore a 1% fall in the Australian share market on a given day can be expected to deliver a 0.9% to 1.1% gain in the value of the Fund before fees and expenses (and vice versa).

The Australian and US Strong Bear Hedge Funds (BBOZ and BBUS), by contrast, maintain higher short equity index futures positions that are allowed to vary between 200% and 275% of each Fund’s NAV on any given day – thereby providing magnified (or “geared”) short market exposure.    A 1% fall in the respective share market on a given day (the Australian market in the case of BBOZ, and the US market in the case of BBUS)  can be expected to deliver a 2.0% to 2.75% increase in the value of either Fund before fees and expenses (and vice versa).

BBUS is also currency hedged, so that Australian investors are also not exposed to currency fluctuations at the same time.

Negative Correlation can Vary over Time

The second reason relates to the need for regular fund re-balancing over time to ensure short market exposure on a day-to-day basis remains within the limits set by each Fund’s investment strategy as the markets fluctuate. This rebalancing causes the Fund to effectively buy futures positions when markets are rising, and sell futures positions when markets are falling in order to keep its short position within the permissible range.  The process of selling the futures into market weakness, and buying futures into market strength can detract from Fund performance over time – especially in choppy sideways trending markets.

Of course, one option is simply not to re-balance – though this would then mean each Fund’s short exposure on any given day could vary widely over time – which would not enable new investors to each Fund to be assured of a certain degree of short-market exposure as set by each Fund’s investment objectives.

Due to the trade-offs involved in keeping short market exposures of each Fund relatively stable over time – yet avoid significant market drag due to regular rebalancing – BetaShares allows short market exposure to vary daily within a relatively narrow band.

Performance to Date

As seen in the charts below, all three Funds have met their investment objectives since inception, with their daily percentage movements negatively correlated with their respective market and within the targeted ranges.

Source: BetaShares, Bloomberg. Past performance is not an indicator of future performance

As evident in the tables below, moreover, these Funds have also done a good job of providing longer-term returns broadly in line with respective investment objectives.  That said, as should be evident from the above analysis, the exact degree of negative correlation may vary over time – and especially when and if these Funds are held over the long-term.

 Australian Equities Bear Hedge Fund (BEAR)

Australian Equities Strong Bear Hedge Fund (BBOZ)

US Equities Strong Bear Hedge Fund (BBUS)

Source: BetaShares, Bloomberg. Past performance is not an indicator of future performance

Please note: The Funds’ strategies of seeking returns that are negatively correlated to market returns is the opposite of most managed funds.  Also, gearing magnifies gains and losses and may not be a suitable strategy for all investors. Investors in geared strategies should be willing to accept higher levels of investment volatility and potentially large moves (both up and down) in the value of their investment. Geared investments involve significantly higher risk than non-geared investments. Investors should seek professional financial advice before investing, and monitor their investment actively. An investment in any of the Funds should only be considered as a component of an investor’s overall portfolio. The Funds are actively managed and do not track a published benchmark.