By Jonathan Burton, MarketWatch
SAN FRANCISCO (MarketWatch) -- Mutual funds designed to make money whether stocks are rising or falling are gaining attention from retail investors and financial advisers, and two leading fund-rating firms are simplifying their search.
Investment-research firms Morningstar Inc. and rival Lipper Inc. are breaking out long-short funds and market-neutral funds, which use sophisticated hedge-fund strategies, into distinct groups of retail offerings.
Morningstar /zigman2/quotes/209325896/composite MORN -0.89% introduced its long-short category on Wednesday, and a list of about 30 funds, including market-neutral funds, was available Friday. Lipper, meanwhile, plans a mid-April unveiling for a group of about 20 long-short funds and a separate category of perhaps five market-neutral offerings.
Long-short funds give a manager the flexibility to be bullish in one market sector, bearish in another -- and pocket gains from both. Market-neutral funds, in contrast, aim to keep an equal, or neutral, balance of "long" positions -- stocks owned outright -- and "short" positions - bets that a stock's price will decline.
Having a long-short category helps investors make informed decisions about these funds, noted Dan McNeela, Morningstar's associate director of fund analysis.
"Strategies are very different from fund to fund," he said. In addition, many long-short offerings are saddled with high expenses and sluggish results, McNeela said, while others "clearly have been successful."
Reaching retail buyers
Interest in hedging tactics has picked up from retail investors, who are still pained by losses in the 2000-2002 bear market. Most of these people aren't wealthy enough to invest in a traditional hedge fund, but they can afford long-short funds' relatively inexpensive initial minimum, which can be as little as $1,000.
In response, big fund companies, including Janus Capital Group Inc. , American Century Investments and Franklin Resources Inc. /zigman2/quotes/201997162/composite BEN +0.97% , manage such funds or intend to offer them.
"We're seeing more funds come up with hedge-like strategies," said Bill Sickles, a Lipper senior research analyst. Unlike Morningstar, Lipper chose to separate long-short from market neutral, Sickles added, because market-neutral funds "are a breed by themselves."
A market-neutral manager, Sickles said, looks to keep the portfolio on par with a stock-market benchmark, typically the Standard & Poor's 500 Index /zigman2/quotes/210599714/realtime SPX +0.08% , and tries to capture excess return through stock selection.
Long-short funds, in contrast, are making a directional bet, Sickles added. "Depending on the manager's discretion, they're going net long or net short," he said. "They're not market neutral. They're actually trying to predict the market and be in the right position."
While the funds in Lipper's two forthcoming categories are still preliminary, there is, not surprisingly, a fair amount of overlap with the Morningstar list. There are, however, also some clear differences.
Some funds in common: Diamond Hill Focus Long-Short Fund /zigman2/quotes/205953989/realtime DIAMX +0.21% ; Schwab Hedged Equity Investor Fund ; Templeton Global Long-Short Fund , Laudus Rosenberg U.S. Large-Mid Capitalization Long-Short Fund ; James Market Neutral Fund and Analytic Global Long-Short Fund /zigman2/quotes/204729577/realtime ANGLX 0.00% .
In terms of differences, Morningstar includes well-regarded Hussman Strategic Growth Fund /zigman2/quotes/203176466/realtime HSGFX -0.31% and Arbitrage Fund /zigman2/quotes/206909416/realtime ARBFX -0.16% in its long-short group, for instance.
Lipper doesn't currently have those two funds on its proposed long-short list, but it does tap Baron Partners Fund /zigman2/quotes/203351672/realtime BPTRX +0.67% , which Morningstar identifies as a mid-cap growth offering. Morningstar also doesn't count Icon Long/Short Fund in its new category -- despite its name -- while Lipper would.
Putting funds into convenient categories streamlines the selection process, but will these new lists resonate with investors and their financial advisers?
Christopher Dalto, a financial adviser with Delessert Financial Services in Waltham, Mass., said the classifications are timely. The new categories, he added, show that mutual funds employing hedge-fund styles have gained respect.
"We use them for clients to reduce risk," Dalto said. "In an ideal scenario, you get consistent growth with a smoother ride than a long-only fund."