The Markets October 8, 2007

F-Squared Launches Actively Managed Mutual Fund Indexes

F-Squared Investments, LLC, has launched an industry index portfolio dedicated to indexes constructed of a select number of actively managed mutual funds.
Reported by

Active Index Solutions, LLC (AIS) will introduce the first 18 active fund indexes, known as ActiFindexes, this week, and will offer more in the coming months, according to the F-Squared announcement. The indexes on average are constructed from 10 actively managed mutual funds.

The initial index platform is divided into three investment objective categories:

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  • The Retirement Income category is comprised of Large-Mid Value, Large-Mid Blend, and Large-Mid Growth indexes, and is designed to provide high quality returns over a full market cycle while outperforming in weak or down markets. The selection of the qualifying managers in the portfolio is done by Kanon Bloch Carré (Boston, Massachusetts), the “Index Manager”.
  • The PrecisionAlpha/Sector category is made up of the largest sector categories (Technology, Health care, Financial Services, Utilities, Natural Resources, and Real Estate) and is designed to deliver maximum alpha, or investment value-add. The Index Manager for the portfolio is Mesirow Financial (Chicago, Illinois).
  • The Risk-adjusted Return family of ActiFindexes is made up of nine indexes featuring Value, Core, and Growth across the Large Cap, Mid Cap, and Small Cap areas. These indexes are designed to deliver maximum risk-adjusted-returns. Klein Decisions (Raleigh, North Carolina) is the Index Manager for these indexes.

“The proposition underlying AIS’s ActiFindexes is that the best active mutual fund managers consistently add value over three-year rolling periods and a portfolio of those managers will provide investors with higher retained returns,” said Ron Santangelo, former Manager of Merrill Lynch’s Managed Solutions and Analytics Group and Chairman of the AIS Investment Committee, in a press announcement. “The key is to identify the minority of active managers who are skilled and talented enough to repeatedly and reliably outperform.’

Compliance October 8, 2007

State Street Could Face Another Investment Strategies Suit

Attorneys General in Alaska and Idaho are looking into possible legal action against State Street Corp. over losses their state retirement funds suffered investing in two enhanced index bond funds, the Wall Street Journal reported.
Reported by

Jerry Burnett, administrative services director for Alaska’s Department of Revenue, told the Journal the attorney general is examining “whether or not the fund was in investments more risky than our board had been told about, and whether there’s any liability to State Street.” Officials in Idaho would not give any details, but the Public Employee Retirement System had 5% of its $11.4 billion fund in State Street’s Government/Credit Bond fund.

Prudential, whose Retirement Insurance and Annuity Co. (PRIAC) last Monday filed suit against State Street Global Advisors (SSgA) over losses in SSgA-managed funds for which PRIAC claims the investment strategies were misrepresented, said the Government/Credit Bond fund dropped in value by at least 12% in July and August.

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In the PRIAC suit, the firm said it had placed its clients in two State Street funds, the Intermediate Bond Fund and the Government/Credit Bond Fund, which SSgA had marketed as investments that would provide “stable, predictable returns” in line with an index of U.S. government and corporate bonds. PRIAC claims State Street changed its investment strategy over the summer without notification and devoted a large portion of the funds’ investments to financial instruments that included “asset-based securities that overwhelmingly derived their value” from home-equity loans, mortgage-backed securities swaps, and derivatives. The suit also claims SSgA recently informed Prudential it held a position in “a synthetic index whose returns are linked to 20 subprime U.S. mortgage pools’ (See Prudential Accuses SSgA of “Misrepresented’ Investment Strategies).

The value of assets about 1,100 Alaska state workers had invested through their defined contribution plans in State Street’s Government/Corporate Bond Fund fell to $30 million on August 23 from $36 million on June 30, Alaska revenue officials said. The following day the plan’s board, in an emergency meeting, dropped the fund as an investment option. Officials said by that time the fund was down 18% for the year.

According to the Wall Street Journal report, a “detail sheet” provided by State Street to clients for the Government/Corporate Bond Fund said the investor receives exposure to a “broad-based, investment-grade fixed-income universe.” However, as of March 31, the fund had nearly half of its weighting in mortgage-backed securities (25%) and other asset-backed securities (23%). Six months earlier, the same fund’s biggest weighting was in U.S. Treasuries, while mortgage and asset-backed securities accounted for less than 6% of its top 10 holdings, the news report said.

Sean Flannery, the chief investment officer for SSgA, wrote to institutional clients on August 14 that “in the midst of the recent turmoil in the fixed-income markets, many of our active bond strategies” had “sharply underperformed,” according to the Wall Street Journal news report. Flannery said the company had “focused increasingly on housing-related assets” to find attractive yields and said “the level of underperformance” was “unprecedented in our 30-year history as a fixed income manager.”

According to the Wall Street Journal, State Street told institutional investors in a report that as of July 31, the Government/Credit bond fund was leveraged to nearly 6-to-1, meaning that the fund borrowed to increase its portfolio to about six times the amount of money clients had invested. A footnote said the investments included Treasury futures, options on futures, interest rate swaps, and interest rate “swaptions.”

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