Trading Techniques  |  FEB 1999

Designer Funds by Gary H. Elsner, Ph.D.

Designer Funds by Gary H. Elsner, Ph.D. Mutual funds show a less than stellar performance relative to the Standard & Poor’s 500 index. It should come as no surprise, then, that Wall Street has responded by offering products that mimic the S&P 500. Going a step further, some funds are set to do the exact opposite of the S&P 500 and thereby offer a hedge. Here are some guidelines. The right financial instruments are the keys to great investing. Over the last four years, 90% of mutual fund managers have been outperformed by S&P 500 index funds, so it is no surprise that new funds created to outperform the S&P 500 have attracted attention. I refer to these as designer funds because they are designed to perform in specific ways, as opposed to having the simple objective of maximizing returns. As an example, the Rydex Nova fund is designed to have 150% of the movement of the S&P 500. If the S&P 500 goes up 6%, Rydex Nova will go up approximately 9%. If the S&P 500 goes down 6%, then Rydex Nova will go down about 9%. Not only that, recently introduced funds are designed to have movements of up to 200% of the S&P 500. And there are funds that move in an inverse relationship to the S&P 500 and the NASDAQ 100 as well. If we refer to these enhanced movements as leveraging, we can create just about any degree of leveraging by investing different amounts in one of these instruments and in a money market fund. Let’s take a look at the new designer funds, study how we can achieve various degrees of leveraging and determine ways in which these funds can be used in developing new investment models.

by Gary H. Elsner, Ph.D.