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Bailey McCann, Opalesque New York for New Managers: Since 2013, portfolio manager Mark Kress has been consulting for multi and single family offices on custom absolute return portfolios. Now, he's launched his own fund-of-funds, building on what he's learned. The Alpha Diversified Fund is the flagship strategy of his investment firm Alpha Wealth Funds and is a portfolio of boutique hedge fund managers that can be used singularly as a complete hedge fund allocation or alongside other existing hedge fund allocations in a broader portfolio.
Kress tells New Managers that he wanted to build a product that relied on boutique managers because smaller hedge funds typically generate higher investment returns. "I think the data is pretty empirical that small and nimble funds tend to do better," he says. "The issue with smaller funds is that investors often don't want to take on the volatility or the risk. But if you're constructing a portfolio through a risk management lens you can invest with boutique managers in such a way that you aren't opening yourself up to extreme volatility."
In his work with family offices, Kress built absolute return portfolios that were designed to invest across a variety of hedge fund strategies with volatility under 10%. He says that while boutique managers can generate higher returns it's also important to understand that they can also be sources of idiosyncratic risk. A well constructed multi-strategy portfolio then should account for that so that the risk can be mitigated. Within the Alpha Diversified Fund, Kress does this by taking smaller positions in 12-20 managers. The portfolio is then evaluated throughout the year to ensure that correlation and concentration risk remains relatively low. Kress says investors can expect a portfolio turnover of 2-3 funds within the group per year. He will exit funds if they begin to exhibit qualities that fall outside of his risk management parameters.
"We're looking at a universe of hedge funds that typically have under a billion in AUM - many have in the $200 million range - that's sort of the sweet spot for us," he explains. "There are a lot of funds that are in that range so the available strategies are very diverse and we're very engaged with the portfolio managers that we invest with. We want to make sure that our goals are aligned and that we have similar views on risk management."
The strategy ended 2022 up 11.4% and has maintained positive performance in the first two months of the year. The fund was up 0.1% in February and is up 0.4% year to date through February 28. Kress says the market has been challenging over the past few years, but the fund's risk mitigation framework has held up under pressure.
Kress also plans to keep the fund of funds itself within that asset range. He says the fund is designed for family offices, ultra-high net worth individuals, or possibly small institutions that want to include a diversified absolute return exposure in their portfolio but may not have the resources to engage in researching hundreds of boutique managers. "This isn't meant to be an asset-gathering vehicle," he says. "We're bringing the same thesis to our fund of funds that we use to invest. The portfolio is designed to provide a target risk/return profile that is best achieved by staying relatively small."
The size is also designed to keep total overhead low to avoid some of the common pitfalls that can come with the fund-of-funds structure. "There are valid criticisms of fund-of-funds - especially if they aren't well constructed. We're not out to deliver a seven percent return with a four percent vol at a very high fee," he says. "We've brought a product to market based on our prior work constructing portfolios and the result is a fund of funds that we think is compelling based on the performance to date at a competitive total cost."
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