Here is a simple way of do-it-yourself way of making an equity market neutral fund without having to pay the big fees:
- Buy the top large cap Growth and Value equity funds, as ranked by Morningstar
- The funds must be no-load mutual funds, have assets of at least a billion dollars and expense ratios less than 1%
- Short the S&P 500 Spyder (SPY) against the portfolio
- Re-balance the dollar amounts allocated to the funds monthly and re-balance the fund components annually
For the period from December 1998 to Janaury 2008 the synthetic equity market neutral portfolio showed a very respectable annualized return of 6.4% (after fees) and a Sharpe ratio of 0.9. Comparing to the HFRX Equity Market Neutral Index using that index's inception date of March 2002, this portfolio returned 4.5% vs. the HFRX return of 0.6%.
I have been running this simple portfolio out of sample for since December 2003 and the results are similar to the in-sample results. In 2007, the synthetic market neutral portfolio also beat HFRX with 6.8% to 3.4%.
Sometimes the simple solutions are the best.