The iMGP Alternative Strategies Fund (Institutional Share Class) gained 1.49% in the second quarter of 2024. During the same period, the Morningstar Multistrategy Category was down 0.13%, the Bloomberg US Aggregate Bond Index (the Agg) was up 0.07%, and the ICE BofA 3-Month Treasury Bill Index returned 1.32%. For the first half of the year, the fund was up 4.62%, compared to the category’s 4.59% return, a loss of 0.71% the Agg, and a 2.63% gain for the ICE BofA 3-Month Treasury Bill Index.
Performance quoted represents past performance and does not guarantee future results. The investment return and principal value of an investment will fluctuate so that an investor’s shares, when redeemed, may be worth more or less that their original cost. Current performance of the fund may be lower or higher than the performance quoted. The Advisor has contractually agreed to waive a portion of the management fee through April 30, 2024. Performance data current to the most recent month end may be obtained by visiting www.imgpfunds.com.
For standardized performance click here: https://imgpfunds.com/alternative-strategies-fund/
Quarterly Review
The Alternative Strategies Fund added another 1.49% in the quarter, adding to the strong start of the first three months of the year. The fund’s 4.62% first half return beat the Agg by over five percentage points. This return also beat T-Bills by two percentage points, reinforcing the fact that as “risk-free” rates rise, so too do the expected returns for many alternative strategies (whether directly/explicitly or implicitly), including those in the fund. We have mentioned this in conversations with many investors, but it’s worth reiterating here, as the “T-Bill and chill” trade has remained a popular option for its yield, simplicity, and stability. The expectations for rate cuts have been on a rollercoaster for what seems like forever at this point, but recent Fed rhetoric and economic data points suggest a significantly higher chance of multiple cuts this year. This would obviously begin to reduce the absolute appeal of that strategy, and maybe equally importantly, mark an official end of “higher for longer,” giving investors and advisors a permission structure to rotate out of cash to seek higher returns, even at the cost of some level of volatility.
Core bonds have continued to be volatile this year, demonstrating the need for different return drivers and strategies in pursuit of portfolio diversification. We are pleased that the fund’s greater underlying diversification has provided that, again bolstered this quarter by DBi’s Enhanced Trend strategy. While gains this quarter were not as dramatic as the prior one, they were still the biggest driver of performance, with a return of more than four and a half percent (over 14% through the first half). This has supported fund performance significantly while more than 40% of the portfolio (DoubleLine and Loomis Sayles) managed to grind out returns in the ballpark of one percent, and Water Island was slightly net negative in a challenging second quarter for their respective strategies. We know (from experience) that things can change quickly, and trend-oriented strategies don’t move in a smooth upward slope, but environments like this reinforce our conviction that tolerating the strategy’s lean times are worth it in the medium and long run.
Despite the relatively modest returns for DoubleLine and Loomis Sayles in the quarter, they have been reasonable positive contributors year-to-date, and on a blended basis still sport an attractive yield of 8.5% and a duration under 5. Securitized credit spreads in most sectors have narrowed this year, catching up to some degree with corporates, although securitized still offers varying levels of spread premium with generally strong underlying fundamentals. (There are notable exceptions to the positive fundamentals, like office-heavy CBMS, of course.) Water Island has been a disappointing performer this year, along with the merger arbitrage space generally, despite increased deal activity compared to last year. The regulatory speedbumps again popped up on the road to deal completions, with several high-profile challenges causing spreads to increase materially in large and widely held positions, as was the case in the first half of last year. Most deals close, even those that have been challenged by aggressive regulators, and last year Water Island’s portfolio was up almost 6% in the second half as that became apparent. Deal spreads are wide by historical standards, at levels that have usually presaged attractive returns in subsequent quarters. Rate cuts, the mountain of private equity dry powder, and the increasing potential of a more lenient regulatory climate in the U.S. are additional factors that could bolster merger arb going forward.
As fellow shareholders, we remain excited about the fund’s positioning and prospects. We look forward to reporting to you in coming quarters. Thank you for your continued investment and confidence in the fund.
iMGP Alternative Strategies Fund Risk/Return Statistics 3/31/2024
| MASFX | Bloomberg Barclays Agg | Morningstar Multistrategy Category | Russell 1000 | ||
| Annualized Return | 3.88 | 1.61 | 3.25 | 15.5 | |
| Total Cumulative Return | 62.40 | 22.65 | 50.35 | 504.33 | |
| Annualized Std. Deviation | 4.70 | 4.48 | 4.18 | 14.70 | |
| Sharpe Ratio (Annualized) | 0.56 | 0.10 | 0.48 | 0.95 | |
| Beta (to Russell 1000) | 0.27 | 0.10 | 0.25 | 1.00 | |
| Correlation of MASFX to… | 1.00 | 0.38 | 0.90 | 0.83 | |
| Worst 12-Month Return | -10.04 | -15.68 | -5.71 | -19.13 | |
| % Positive 12-Month Periods | 0.77 | 0.65 | 0.75 | 0.87 | |
| Upside Capture (vs. Russell 1000) | 26.24 | 10.65 | 24.39 | 100.00 | |
| Downside Capture (vs. Russell 1000) | 26.52 | 10.42 | 27.24 | 100.00 | |
| Upside Capture (vs. AGG) | 74.34 | 100.00 | 59.87 | 230.28 | |
| Downside Capture (vs. AGG) | 19.47 | 100.00 | 13.07 | 8.82 | |
| Past performance does not guarantee future results. Indexes are unmanaged and cannot be invested into directly. | | As of 6/30/2024 Since inception (9/30/11) | |||
Quarterly Portfolio Commentary
Performance of Managers
The Long-Short Systematic Credit portfolio returned 1.3% in the quarter.
Credit spreads were wider over the quarter (but remain quite narrow historically) and rates were net higher after jumping up in April on a deluge of hawkish Fed speak before retreating more recently on weak inflation and labor markets data prints. Nonetheless, credit indices were up a bit over the second quarter as their strong carry overcame those market moves. On net, the market tone was constructive, with new issuance markets open, large cap equities rallying, and volatility measures low. The portfolio is systematically constructed to be well-diversified and to be broadly neutral over time to the beta exposure of the index and to rates. Strategy returns therefore are mostly due to the credit selection in the portfolio.
Over the quarter, credit selection was strong and the portfolio delivered steady alpha performance. Excess returns were driven by the bond sleeve, with beta hedging performing about in line with expectations. The CDS strategy delivered flat performance as losses in airlines and housing positions were offset by gains in retail and financials. The bond sleeve saw strong returns from hospitals, energy, mining, and technology names. Equipment and telecom were detractors. The portfolio has been thematically underweight CCC names, preferring lower-spread, higher-quality names, and even long BBB’s. This “tilt” produced volatility over the quarter as CCC names continued to fluctuate, but on net has been a positive contributor as BBB’s have delivered steady risk-adjusted returns. On a single name basis, contributions were generally well behaved, in keeping with the diversified nature of the portfolio.
Portfolio positioning has rotated a bit, following on from the first-quarter moves, selling down in rate-sensitive consumer durable and technology sectors (which are no longer net overweights in the portfolio) and getting longer in energy, retail, and financials. The underweight position in high spread CCC names has remained, as the model continues to see a benefit from avoiding deteriorating names, especially in telecom. The differentiation between credit winners and losers looks set to continue well into the second half of 2024 and likely beyond, as an economic inflection point still looms, likely creating opportunities for active management and credit selection over coming quarters.
DBi:
If there is anyone on Planet Earth who has consistently nailed the macro environment this decade, we have yet to hear about him or her. Rather, the past several years have been a lesson in unpredictability. Who would have anticipated a global virus and economic shutdown – let alone one followed a few months later by a bullish frenzy in speculative assets? Or that the Fed would slam the brakes with 500 bps of rate hikes, only for the economic train to shrug it off? Or that markets would remain blasé about a rapid deterioration in macroeconomic instability — whether hot or cold wars, political chaos and dysfunction, or socioeconomic fragmentation? Or that so many market canons – the predictive power of an inverted yield curve, the inverse correlation of stocks and bonds, the relationship of growth and value stocks, the bond market’s reaction to profligate government spending, etc. – would falter?
As physicist Niels Bohr pithily said, “it’s difficult to make predictions, especially about the future.” As you know from these letters, we embrace this humility. We live in a world of probabilities, not certainties. This ethos flows through to how and why we built this strategy. We avoid making calls where we believe we have no demonstrable edge: we do not try to predict which hedge fund, let alone strategy, will perform best next year. Likewise, we avoid risks that have limited economic payoff despite large, unpredictable “fat tails” – e.g. illiquid assets in a daily liquid fund. Instead, we focus on two calls where we believe the odds are strongly in our favor: (a) that efficient pre-fee replication can outperform high-cost hedge funds (and, even more so, their liquid brethren) and (b) that diversification among different strategies can lead to a more stable return profile. To put it succinctly, and to borrow from a hedge fund legend, we focus on what works and try not to do stupid things.
Performance and Positioning
The iMGP Enhanced Trend portfolio rose by 4.7% net during the second quarter of 2024. The quarter continues to echo what we said in last quarter: returns and alpha generation are lumpy. Products that promise to deliver perfectly smooth returns are either deliberately smoothed (think: private credit) or flat-out frauds. Portfolio diversification and source of returns are on full display this year. Last quarter, broad based equity gains led portfolio performance. In this quarter the Japanese yen was the top contributor to performance while equities somewhat detracted. During the quarter, we continued to reduce long equity risk, increased the duration of the short position in Treasuries, pivoted from short to long the Euro, and have scaled up long positions in commodities. This year arguably has been a case study in the potential performance drag of non-core positions: numerous markets not only have suffered repeated whipsaws, but allocations to those markets reduced exposure to certain “core” trades (i.e. short the Yen) that worked much better. Hence, the model is “working” as expected — we have maintained high correlations this year and clearly are capturing the broad positioning of the space – but simplicity is turning out to be an important “alpha generator” above and beyond fee and expense savings.
DoubleLine:
The DoubleLine Opportunistic Income portfolio gained 1.2% during the quarter, outperforming the Agg’s 0.1% return.
US Treasury yields rose over the period as the FOMC remained patient with its policy stance and investors priced in a shallower path for future interest rate cuts. The 2-year, 10-year, and 30-year U.S. Treasury yields increased 13, 20, and 22 basis points, respectively, due to a resilient economy and stubbornly high inflation.
The portfolio’s outperformance was driven by both asset allocation and security selection, as its overweight positioning towards credit and security selection within the credit markets were accretive to performance. Nearly every sector in the portfolio generated positive returns, with the top-performing sectors consisting of asset-backed securities (ABS) and collateralized loan obligations (CLOs). The portfolio’s exposure to floating-rate and securitized credit sectors outperformed over the period as these assets continue to provide high interest income and benefitted from credit spread tightening.
Non-Agency MBS was another top contributor to performance, largely driven by a rally in yields across the U.S. Treasury curve in the second half of the period and credit spread tightening due to favorable supply-demand factors. Agency MBS and commercial mortgage-backed securities (CMBS) were the only sectors in the portfolio to detract from performance. Agency MBS underperformed due to duration-related price impacts. Despite the rise in interest rates, CMBS detracted the most from performance as credit spreads did not rally as sharply for this asset class compared to other fixed income sectors. The portfolio ended the quarter with a duration of 5.2 and a yield of 9.2%,
FPA:
The Contrarian Opportunity portfolio rose over 2% during the quarter. The biggest contributor to performance was a collection of positions in post-reorganization oil services company McDermott International. The company’s securities have been quite volatile (the collective exposure was the largest detractor last quarter). This is hardly unusual for commodity-adjacent businesses, or for post-bankruptcy companies, so volatility from a company in both those categories is unsurprising. Alphabet and Analog Devices were the only other contributors of more than 30bps. On the negative side, commercial vehicle dealer Rush Enterprises was the only detractor of more than 30bps, as the stock fell partially due to investor concerns about cyclicals in a potentially slowing economy and the retirement of two senior executives.
Activity was relatively light during the quarter, with no material increases or decreases of existing positions. There were new long positions added in Vail Resorts and Rentokil Initial plc, as well as a small short hedge position in SPY. Net long equity exposure is 52.6%, the lowest in some time. The largest sector concentration is in communication services, with industrials and financials following. These three sectors comprise approximately 56% of the equity portfolio. Meanwhile, credit exposure is back into the low teens, at 11.7%. FPA has historically added to credit exposure significantly during periods of market stress, but has found enough unique positions across various market segments to reach a significant position even while corporate credit spreads are quite narrow relative to history. Cash ended the quarter at 33.4%, a high level, but down several percentage points from the end of the last quarter.
Loomis Sayles:
The Absolute Return strategy was up nearly a percent in the second quarter, amid a mixed performance picture for fixed income. Despite some gyrations during the quarter, there were no truly dramatic moves across major market segments for the period. The Agg generated a barely positive return, with short-duration assets faring reasonably well, while longer-duration, high-quality bonds (both corporate and government) suffered losses of more than 1.5%. High yield bonds and most securitized sectors generated modestly positive performance.
The portfolio’s allocation to securitized markets contributed the vast majority of positive returns for the quarter. Names within non-Agency CMBS and non-Agency RMBS were particularly additive. Securitized remains the largest allocation in the portfolio (33.0%), with ABS, where the portfolio is well-diversified across a range of sub-sectors, making up almost one-third of the securitized book. Non-Agency CMBS is slightly behind that, also at almost one-third. Almost equal allocations to CLOs (mostly senior mezzanine tranches) and non-Agency RMBS make up the balance.
Investment-grade corporate bonds (particularly due to holdings within the banking industry), bank loans, and convertible bonds were also slightly additive, while the modest dividend-focused equity allocation (4%) was a minor drag on performance, mostly due to exposures in capital goods.
The portfolio managers have been marginally more active in managing duration in the higher-rate volatility environment we have been experiencing, with the portfolio’s duration ranging from under 3 to almost 4.5 during the first half of the year, before ending the quarter at 3.9. The portfolio has also continued to become somewhat more conservatively positioned in terms of credit exposure with spreads narrow by historical standards, but still yields 7.3% as of quarter end.
Water Island:
The Water Island Arbitrage and Event-Driven was down slightly (net) in the second quarter. Credit special situations positions, which have increased to about 15% of the portfolio, contributed positively, but were offset by losses in core merger arbitrage positions.
Deal Highlights
The top contributor the portfolio for the quarter was a position in the acquisition of Olink Holding by Thermo Fisher Scientific. In October 2023, Olink – a Sweden-based developer of technologies for the advanced analysis of proteins and nucleic acids – agreed to be acquired by Thermo Fisher – a US-based manufacturer of an array of analytical instruments and laboratory equipment – for $3.1 billion in cash. Thermo Fisher’s existing solutions for proteomics, or the large-scale study of proteins, prompted investigations by multiple competition regulators, including the UK Competition and Markets Authority (“CMA”) and Germany’s Bundeskartellamt, or Federal Cartel Office. Despite the ensuing volatility in the deal spread, Water Island maintained the exposure as the companies appeared confident they would be able to assuage any regulatory concerns and continued to reiterate they expected to be able to close the transaction by mid-year. Indeed, this confidence was rewarded over the course of the second quarter as various approvals were received, and as of this writing early in July, the final outstanding approval (from the CMA) was received and the transaction closed successfully. Other top contributors included Exxon Mobil’s $60.3 billion all-stock acquisition of upstream energy company Pioneer Natural Resources, which closed successfully in Q2 making Exxon Mobil the largest producer of shale gas in the Permian Basin, and the portfolio’s position in UpHealth convertible bonds, which the company redeemed during the period using proceeds from the successful sale of its Cloudbreak Health subsidiary.
Conversely, the top detractor for the quarter was a position in the merger of Capri Holdings and Tapestry. Capri Holdings is a multinational fashion holding company that owns leading luxury goods, apparel, and footwear brands such as Michael Kors, Versace, and Jimmy Choo. In August 2023, the company agreed to be acquired by Tapestry – a multinational fashion holding company which owns brands such as Kate Spade and Coach – in an all-cash transaction valued at $10 billion. Post deal announcement, the companies’ share prices suffered amidst a softening luxury goods market, and the deal spread experienced further volatility stemming from a second request by the Federal Trade Commission (FTC), which extended the timeline for regulatory review. While the transaction is still pending, Water Island ultimately opted to exit the position to focus on opportunities with greater risk/reward potential. Other top detractors included the $33.6 billion cash-and-stock acquisition of engineering simulation software developer ANSYS by semiconductor design and manufacturing toolmaker Synopsys, which experienced spread volatility after the companies received notice from China’s competition regulator that they must seek approval in China despite not meeting the regulator’s own local revenue thresholds that would trigger an antitrust review, and the $13.4 billion all-cash acquisition of United States Steel (“US Steel”) by Nippon Steel of Japan, which has received regulatory approval in every required jurisdiction except the US, where the transaction has been ensnared in election-year politics with concerns about the potential impact to jobs, national security, and desires for US Steel to remain an American-owned company. Water Island maintains exposure to the ANSYS and US Steel deals as they continue to expect them to reach a successful conclusion.
Water Island Market Commentary
While headlines during the first half of 2024 were dominated by talk of artificial intelligence and the dramatic runs by stocks like Nvidia, macro investors adjusted their predictions for central bank rate cuts which led to spikes in volatility throughout the quarter. Federal Funds futures markets have pushed out timing expectations for any rate cuts toward the latter half of 2024, with each new economic data release being scrutinized for its potential impact on rate predictions. Despite this, credit markets generally remained stable during Q2, while equities continued to notch new highs.
In this environment, mergers and acquisitions (“M&A”) volume in North America surpassed one trillion dollars in the first half of 2024, marking a 27% increase compared to the first half of 2023. At this pace, M&A activity in North America is poised to outperform three of the last four years. Transactions exceeding $10 billion have seen a nearly 70% year-over-year increase and account for almost two-thirds of the overall volume growth in 2024. Shifts in corporate priorities have spurred a wave of strategic consolidations, and companies are increasingly seeking to expand their capabilities and market reach through acquisitions, resulting in a diverse and lucrative array of arbitrage opportunities. The private equity landscape has also displayed considerable strength, with 58 separate transactions valued at $500 million or greater materializing in the second quarter alone, underscoring the resilience and strategic acumen of private equity firms in navigating the prevailing market complexities. As deal flow is on the rise, the return potential for merger arbitrage remains compelling – deal spreads widened last quarter, which has resulted in an abundance of attractive potential rates of return in large, liquid deals presenting numerous investment opportunities for the strategy.
Barring any unexpected macro shocks, we expect markets will be focused primarily on the upcoming U.S. presidential election and the path of “higher for longer” interest rates during the second half of the year. While a Democratic victory would likely provide an economic status quo, a Trump victory could have mixed consequences for markets. We would expect antitrust and agency regulations to ease under a Republican administration, though lower business taxes, higher tariffs, and possible trade war escalations could result in larger impacts on inflation. The novel tactics employed by Federal antitrust regulators over the past few years have been disruptive to the timing and outcomes of numerous deals and have likely had a chilling effect on the willingness of companies in certain industries or of a certain scale to engage in the process of making acquisitions. Perhaps even larger than the impact of the Presidential election is the rate path dictated by inflation readings and the Federal Reserve. Interest rates are a powerful governing force in the economic universe, and we are optimistic that lower rates will bring about more corporate activity, including debt refinancings for our catalyst-driven credit sleeve and a vigorous M&A environment with opportunities on both sides of the capital structure.
Strategy Allocations
The current allocations, reflecting the DoubleLine tactical overweight are 27% to DoubleLine, 17% each to DBi and Water Island, 15% to Loomis Sayles, 13% to Blackstone Credit Systematic Group, and 11% to FPA. (The fund’s strategic targets are: 20% each to DBi and DoubleLine, 18% to Water Island, 15% each to Blackstone Credit Systematic Group and Loomis Sayles, and 12% to FPA.) We use the fund’s daily cash flows to bring the manager allocations toward their targets when differences in shorter-term relative performance cause divergences.
Sub-Advisor Portfolio Composition as of March 31, 2024
Blackstone Credit Systematic Group (DCI) Long-Short Credit Strategy
| Bond Portfolio Top Five Sector Exposures | |
| Consumer Discretionary | 14.3% |
| High Tech | 12.7% |
| Energy | 9.8% |
| Consumer Non-Discretionary | 7.1% |
| General | 6.0% |
| CDS Portfolio Statistics | ||
| Long | Short | |
| Number of Issuers | 71 | 67 |
| Average Credit Duration | 4.3 | 4.4 |
| Spread | 116 bps | 103 bps |
| DBi Enhanced Trend Strategy | |
| Asset Class Exposures (Notional) | |
| Commodities | 24.9% |
| Currencies | -24.5% |
| Equities | 21.2% |
| Rates | -93.9% |
| DoubleLine Opportunistic Income Strategy | |
| Sector Exposures | |
| Cash | 2.1% |
| Government | 3.7% |
| Agency Inverse Interest-Only | 13.3% |
| Agency CMO | 0.5% |
| Agency PO | 0.5% |
| Collateralized Loan Obligations | 20.0% |
| Commercial MBS | 16.6% |
| ABS | 6.3% |
| Bank Loan | 1.0% |
| Emerging Markets | 0.3% |
| Non-Agency Residential MBS | 35.6% |
| TOTAL | 100.0% |
| FPA Contrarian Opportunity Strategy | |
| Asset Class Exposures | |
| U.S. Stocks | 35.9% |
| Foreign Stocks | 16.8% |
| Bonds | 11.7% |
| Limited Partnerships | 2.1% |
| Other Asset Backed | 0.7% |
| Short Sales | -0.5% |
| Cash | 33.4% |
| TOTAL | 100.0% |
Loomis Sayles Absolute Return Strategy
Strategy Exposures
| Long Total | Short Total | Net Exposure | |
| Securitized | 33.0% | 0.0% | 33.0% |
| High-Yield Corporate | 17.0% | -2.2% | 14.8% |
| Investment-Grade Corp. | 15.8% | 0.0% | 15.8% |
| Convertibles | 4.5% | 0.0% | 4.5% |
| Dividend Equity | 4.2% | 0.0% | 4.2% |
| Emerging Market | 2.9% | 0.0% | 2.9% |
| Bank Loans | 3.5% | 0.0% | 3.5% |
| Global Sovereign & FX | 8.6% | 0.0% | 8.6% |
| Subtotal | 89.5% | -2.2% | 87.3% |
| Cash & Equivalents | 10.5% | 0.0% | 10.5% |
Water Island Arbitrage and Event-Driven Strategy
Sub-Strategy Exposures
| Long | Short | Net | |
| Merger Arbitrage – Equity | 74.9% | -15.5% | 59.4% |
| Merger Arbitrage – Credit | 7.7% | 0.0% | 7.7% |
| Total Merger-Related | 82.6% | -15.5% | 67.2% |
| Special Situations – Equity | 0.8% | 0.0% | 0.8% |
| Special Situations – Credit | 15.3% | 0.0% | 15.3% |
| Total Special Situations | 16.1% | 0.0% | 16.1% |
| Total | 98.8% | -15.5% | 83.3% |