On October 26, 2020, Frank Capital Partners launched the West Hills Tactical Core Fund (LEBOX). The plan is to invest half or more of the portfolio directly, or through ETFs, in domestic large-cap stocks. The remainder will be placed in cash or options. The fund will be managed by Alan McClymonds. From 2011 to 2015 Mr. McClymonds was a consultant for Whitaker Securities in New York, NY. Whitaker’s “primary goal is to provide global liquidity in the fixed income markets,” which they do for 200 or so clients. From 2016 to present, Mr. McClymonds has been a private investor who was introduced to founder Brian Frank by a professional associate.
Three things to know about the fund:
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The fund seeks the address structural problems created by passive, capitalization-based indexes such as the S&P 500. Mr. Frank argues that the rise of passive indexing is a structural cause behind heightened market volatility. He argues:
Passive investing … continues to drive the US equity market to record valuations while weakening the underlying market structure. Higher passive market share means fewer available buyers and sellers at any market price. Equity prices will continue to rise as passive vehicles experience inflows, but severe instability in prices and liquidity will eventually result as shareholders become concentrated in a few massive players. This instability will cause material declines in US stock valuations. Outflows from passive strategies have the potential to crash the equity market… (Slaughterhouse-Five (Hundred), 4/3/2020)
At base, so long as funds continue to flow in, stock prices will rise without regard to underlying stock valuations. Conversely, when inflows cease, stock prices will fall, perhaps catastrophically. That decline would normally be buffered by purchases made by active investors with “dry powder” available but such investors are fewer and passive investors hold no cash reserves. The risk, as he sees it, is that the structure that drives blind upward movements when the flow is coming in could drive blind downward movements when it is not.
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The manager aspires to outperform the S&P 500 on a risk-adjusted basis. In particular, he hopes to have a capture ratio greater than 1.0. That will occur if the fund captures more of the S&P 500’s upside (they believe an upside capture in the mid-90s is reasonable) than it captures of the index’s downside (potentially they might have a downside capture in the low 80s). McClymonds says:
West Hills Tactical Core Fund is designed to achieve a better risk/reward profile over a full market cycle than its benchmark, the S&P 500. The Fund works towards its goal by matching the upside performance of the index while outperforming the index in down markets due to reduced market exposure. The Fund is an active seller of listed options and employs a quantitative proprietary risk model to control market exposure.
The plan is to inexpensively capture the returns of the S&P 500 when times are good and volatility is low, then to hedge the portfolio with tactical sales of covered calls. As a professional options trader, Mr. McClymonds has developed a volatility trigger calculated from a combination of short- and medium-term volatility indexes linked to the S&P 500 and listed on the CBOE. Mr. Frank described them as “the secret sauce” and declined to share details of the trigger’s operation.
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West Hills is a rechristened version of Leigh Baldwin Total Return. This fund has nothing in common with its predecessor except the legal structure. The repurposing expedited the fund’s launch to allow Frank Capital to bring this strategy to market faster. The downside is that the three-year record is bad (bottom 25% of its Morningstar peer group) and the five- and ten-year records are worse. As a result, unless Morningstar agrees to a hard reset that starts the fund’s performance record anew in 2020, the fund is going to be lugging an unearned one-star rating for rather a while.
Mr. Baldwin retired from investment management but is sufficiently positive toward Mr. McClymonds’ approach that he maintains his personal investment in the new fund.
The good news is that options-based funds have pretty routinely been able to capture more of the S&P 500’s upside than its downside; that is, they’re able to achieve a capture ratio over 1.0 though many of those have short track records. Over the past three years, the top 10 options-based funds have managed a perfectly respectable 10% annual return. The bad news is that almost none of them manage to simultaneously capture 90% or more of the S&P and exceed 1.0. Of 41 options-based open- and closed-end funds with a three-year record, four have a capture ratio above 1.0. Only one of those four has an upside capture above 57. That doesn’t disparage Mr. McClymonds prospects, it just notes that this would be a pretty spectacular accomplishment. We wish him well with it.
Its opening expense ratio is 1.57% and the minimum initial investment will be $1,000. Mr. Frank noted that, while the strategy’s alpha exceeds its net expense ratio, he is “committed to reducing expenses aggressively.” For now, it reflects the expense ratio inherited from its predecessor. The fund is available at Fidelity and through direct investment.
Website: Frank Funds, As of mid-October, the West Hills fund and Mr. McClymonds had not yet appeared on the advisor’s somewhat minimalist site but they’re working on it.
