BTAL - BTAL: A Smart Way To Hedge The Market

2023-12-05 14:56:41 ET

Summary

• BTAL is a hedging exchange-traded fund that takes a market-neutral stance by shorting high beta names and going long low beta equities.
• The fund makes money when the market is in a risk-off mode and participants sell out of speculative high beta names.
• BTAL tends to have more muted negative returns compared to inverse funds like SH and can even be flat during years when the market is up.
• The fund is a relative value play between high/low beta names and does not represent an outright delta short.
• BTAL is an appropriate tool to use in today's market, which exhibits signs that investor euphoria is back in play.

Thesis

If you are bearish equities, there are a couple of things one can do as an investor. The first and best step is to cut all your high beta exposures from your portfolio. This ensures the potential drawdown will be shallow and manageable. The second step is to try and hedge the remaining exposure. There are a couple of ways a retail investor can hedge:

1. Options
2. Inverse ETFs
3. Hedging ETFs

Hedging via options involves the purchase of puts, or the more risky selling of calls. The two strategies have different risk/reward profiles but nonetheless require an investor to have a pretty good understanding of options pricing and the drivers behind potential positive profit and loss scenarios.

Hedging via inverse ETFs entails purchasing a fund which offers the inverse performance of a specific index. We have covered these instruments before, specifically looking at the ProShares Short S&P500 ETF ( SH ) back during the summer rally. Each index has a specific inverse ETF, but they should be thought of as short-term instruments. If an investor truly wants to reduce their S&P 500 sensitivity, then they should sell their equity positions.

Lastly, there are a number of 'Hedging ETFs', with the AGF U.S. Market Neutral Anti-Beta Fund ETF ( BTAL ) being part of that group. We have covered names from this cohort before, namely, the Cambria Tail Risk ETF ( TAIL ) covered here . As per its literature, the Anti-Beta fund:

BTAL's objective is to provide a consistent negative beta exposure to the U.S. equity market. BTAL strives to achieve this objective by investing primarily in long positions in low beta U.S. equities and short positions in high beta U.S. equities on a dollar neutral basis, within sectors.

The fund is basically an equity relative value vehicle, with the managers going long equities exhibiting low beta and shorting high beta securities. Beta is a fundamental concept in portfolio management and specifically market risk management. Beta measures a stock's move relative to the overall market. A beta greater than 1.0 indicates that a stock is generally more volatile than the overall market, while a beta lower than 1 references stocks that tend to move less than the market. For example, a stock with a beta of 2 will move twice the value of the overall market. So if the S&P 500 experiences a 10% correction, a stock with a beta of 2 will have a 20% correction. To that end, as an example, the fund is long the Cigna Group ( CI ), while short Coinbase ( COIN ). CI has a beta of 0.56 while COIN has a beta of 3.06.

To best encapsulate what BTAL does, let us have a look at the fund's historic returns when benchmarked against the index and an inverse ETF:

BTAL makes money when the S&P 500 tanks. As we can see from the above table, the fund has posted positive returns primarily during the years when the S&P 500 was down. However, when compared to a pure inverse ETF, BTAL has muted negative years as well. Its low negative total returns are due to its relative value equity positioning. The fund is not net short delta but takes a relative value in high beta versus low beta spreads. Its worst performance was during the zero rates environment experienced in 2020, when the Fed actions and monetary easing helped high beta stocks skyrocket versus their low beta peers.

Fund composition

The fund has two main allocations: a long sleeve and a short allocation:

The ETF is long 197 companies versus short 199 names. The vehicle is short names with higher P/E ratios versus long low P/E names, thus trying to isolate better valuations via its long names. The same valuation discrepancy can be observed via the 'Price to Book Ratio' metric, with the vehicle short the sleeve with a higher P/B figure.

The most important metric from the above table is the Beta figure. The fund's short portfolio has an average beta of 1.42, while its long portfolio has an average beta of 0.76.

It is interesting to note that the ETF is not long a certain sector versus short another, but identifies high/low beta names from each industry to construct its holdings:

For example, BTAL is fairly flat in the Tech sector, with an -11.08% short versus a 10.95% long. The full individual fund holdings can be found here in an Excel format.

Fees and expenses

The fund fees are currently on the high side, but the manager has waived most of them until November 2024:

As per the fund's documents:

The Fund's investment adviser, AGF Investments LLC ("Adviser"), has contractually agreed to waive the fees and reimburse expenses of the Fund until at least November 1, 2024, so that the total annual operating expenses (excluding interest, taxes, brokerage commissions and other expenses that are capitalized in accordance with generally accepted accounting principles, dividend, interest and brokerage expenses for short positions, acquired fund fees and expenses, and extraordinary expenses) ("Operating Expenses") of the Fund are limited to 0.45% of average net assets ("Expense Cap").

Why is BTAL a smart way to hedge the market?

BTAL is not an outright delta short like SH, but a relative value play. The fund loses money during times of euphoria like 2020, when investors bid up profitless high beta companies in hopes of quick gains. Conversely, when valuations crash down to earth, like in 2022, the fund's upside matches an outright short on the market. As we can see from the table in the 'Thesis' section, even during its down years BTAL's losses are very well contained when compared to outright market short positions, with only a -2% loss in 2017 versus -17% for an outright short via SH.

Today's environment is exhibiting euphoria yet again, with high beta names bid up:

COIN, a name present in the fund's short portfolio, is up 65% in the past month, while the ARK Innovation ETF ( ARKK ) is up 20%. The moves are very much technical in nature in our view, rather than fundamental, and we believe a risk-off mode in markets will see substantial crashes in these high beta names, similarly to what we witnessed in 2022:

COIN was down -86% during the year, while ARKK was down -67% in 2022.

A relative value approach like the one taken by BTAL correctly captures the 'euphoria' factor embedded in many high beta names and does not represent a blunt outright short. The lack of flow toward speculative names can actually result in the fund posting positive results, even when index short funds are down for the year, like in 2015.

Conclusion

BTAL is a hedging exchange-traded fund. The vehicle takes a market-neutral stance but is short high beta names versus long low beta equities. The fund makes money when the market is in a risk-off mode and participants sell out of their speculative high beta plays. We have seen this type of move in 2022, when speculative equities experienced massive crashes on the back of rising interest rates and lower allocations to the asset class. During 2022 BTAL was up over +20% while the S&P 500 was down -18%.

BTAL is a smart hedging vehicle because it tends to have more muted negative prints in the years when the S&P 500 is up when compared to inverse funds like SH. Moreover, if the market is not pumping speculative names, the fund can post even flat performances when the index is up, like in 2015.

Today's environment yet again screams euphoria, with the likes of COIN up 65% in the past month (BTAL is short COIN, for example), while value names like SCHD are barely breaking the +5% mark for the same time period. We like BTAL's strategy and feel the next risk-off event will again squeeze out speculators from 'hot' stocks, thus preferring BTAL over an outright inverse fund.

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