Are Liquid Alts more than Diluted Equity Funds?
The hidden costs of liquid alternative funds
April 2025. Reading Time: 10 Minutes. Author: Nicolas Rabener.
SUMMARY
- Most alternative funds feature correlations to equities that are too high
- Out of a sample of 500+ alt funds, 92% did not create value
- Yet, these manage $100 billion and charge $1.1 billion fees per annum
INTRODUCTION
The saying “Ideas are cheap, but execution is everything” is a core mantra in the startup world. However, this principle applies just as much to the asset management industry, where great ideas often falter due to poor implementation.
Take liquid alternative mutual funds and ETFs, for example. They promise uncorrelated returns with daily liquidity – a compelling concept. Yet, as we’ve previously demonstrated, their returns are often more correlated than investors would prefer, offering only limited diversification benefits (read Myth Busting: Alts’ Uncorrelated Returns Diversify Portfolios).
In this analysis, we will evaluate all liquid alternative funds in the U.S. to see if they can clear a simple yet critical hurdle: outperforming a basic portfolio of equities and cash that offers the same risk profile.
CORRELATION ANALYSIS
We analyze the full universe of liquid alternative mutual funds and ETFs with more than three years of track records, encompassing market-neutral, long-short, multi-strategy, and absolute return approaches. Nearly all of these 523 funds promote themselves as offering uncorrelated returns, positioning them as strong diversifiers for traditional equity-bond portfolios.
However, when we calculate their correlations with the S&P 500, the results tell a different story – 185 funds exhibit correlations exceeding 0.50, significantly limiting their diversification benefits. Below, we highlight some of the largest funds, with correlations ranging from 0.59 to 0.97.
