AlphaBee Multi-Arbitrage Fund has received The Hedge Fund Journal’s CTA and Discretionary Trader award for Best Performing Fund in 2022 and over 2 and 5 years in the Fund of Hedge Funds (Arbitrage Strategies) category. Its Sharpe ratio exceeded 2 in 2022. The much-maligned fund of funds model is thriving and giving investors on both sides of the Atlantic access to return and alpha streams that they could not easily source elsewhere.
AlphaBee and its managers have an entrepreneurial mentality that aligns interests with investors. AlphaBee was seeded in June 2017 by its founders and the allocator insists that its managers must also be significantly invested in their own funds. AlphaBee co-founders include CIO David Arnaud, who has worked in M&A, quantitative and hedge fund due diligence and has decades of CIO experience, and Frederic Guibaud, who has a background in long-only assets, commercial real estate and liquid alternatives. The AlphaBee team of four has cumulative experience in finance and investments of close to 100 years.
We find emerging managers can make more alpha even after controlling for survivorship bias.
Frederic Guibaud, Co-Founder, AlphaBee
The Multi-Arbitrage fund was initially named “Mongoose”, recalling co-manager Guibaud’s visit to Namibia, where he witnessed a mongoose eat a scorpion in 20 seconds, setting an example for resilient, alpha hungry managers. Plucky mongooses have also been known to tackle enormous venomous snakes, just as some of AlphaBee’s managers have outperformed the industry behemoths.
AlphaBee also received seed capital from a Swiss family office related to a veteran fund of hedge fund manager and founder of several asset management companies, which underscores AlphaBee’s ability to construct a portfolio of genuinely differentiated strategies, which should be complementary to a family office’s existing investment portfolio. “Our criteria are to find alpha generating relative value and arbitrage managers trading liquid strategies with an asymmetric risk/return profile, strong risk-adjusted returns, and low or no equity or bond sensitivities. The manager needs to have a real edge, genuine alpha potential,” says Guibaud. The manager seeks a Sharpe ratio of at least one and also looks at the third and fourth moments of the distribution – skewness and kurtosis – to find positively skewed managers and avoid fat left tails. Regime sensitivities are also modelled as part of the quantitative routines.
AlphaBee invests with managers who target returns of at least low double digits, though this can be sensitive to the opportunity set. These sorts of managers did their best in late 2021 and 2022 but have seen more subdued performance in the less volatile markets of the first few months of 2023.
Overall, the book is roughly evenly split between systematic and discretionary, though the AlphaBee team has some preferences in both cases. In systematic strategies the opinion is that, “Machine learning and AI have sometimes been hyped up,” says Guibaud. Avoided are also discretionary macro because, “It is hard to identify consistent and persistent alpha”. Strategies trading macro markets are more likely to be currency or commodity arbitrage.
Equity strategies are in long/short, event arbitrage and statistical arbitrage, while volatility arbitrage is also allocated to. All credit, multi-strategy, long only, long biased and crypto strategies are avoided, as are those housed in private equity style fund structures. AlphaBee is exposed to managed futures, but avoid risk premia strategies and even view many CTAs as being a form of alternative beta.
AlphaBee Multi Arbitrage’s volatility has been remarkably low, ranging between 1.5% and 2.8%, and averaging 2.3%.
Roughly one third of the book turns over each year and the reason for redeeming is both manager-specific and based on top-down strategy views. Reasons for turnover can also be related to AlphaBee’s stringent risk framework which guides the team and induces discipline in the portfolio construction. Risk management is an integral part of the firm and is reviewed and monitored by an independent, in-house risk manager. There is also a bench of managers approved for investment, but not yet receiving capital.
AlphaBee is constantly searching for fresh talent, especially by screening databases and canvassing their own networks for new launches. “We find emerging managers can make more alpha even after controlling for survivorship bias. They also have capacity, which is important when virtually all of our underlying managers have capacity constraints,” says Guibaud. One third of the book runs below USD 100 million, sometimes because they are startups but also because some strategies, such as geographic FX arbitrage, are inherently not scalable. Almost half of the managers are hard or soft closed, including a few that run several billion. AlphaBee also often negotiates access to founders’ share classes and capacity rights. Capacity-constrained managers are not always present in hedge fund databases, they like to choose their own investor base from their own network.
In common with AlphaBee itself, managers must “eat their own cooking” by investing in their own strategies, and this can often be a reason why they are hard or soft closed: they do not want to dilute the growth of their own capital by growing beyond optimal capacity. Guibaud estimates capacity of just USD 300 million for AlphaBee’s Multi-Arbitrage fund.
New managers need to be orthogonal to the existing portfolio – and some of the pairwise correlations are even negative – but quantitative correlation coefficients are only part of the story. “We also try to understand qualitatively why managers are decorrelated. Currency arbitrage in Asia should not be correlated to dividend arbitrage in Europe or specialized short sellers or US natural gas specialists,” points out Guibaud.
Sizing of positions is partly based on standalone volatility, so a few managers with 20-30% volatility will be sized smaller, but maximum drawdowns are more important than volatility per se. “We have had one or two managers down 20-30%, but they were sized appropriately ex-ante and had marginal impact on the portfolio,” says Guibaud. In March 2020, 11 of the 15 strategies were positive, three flat or slightly down, but one down double-digit, which largely explains why this was AlphaBee Multi Arbitrage’s worst month, down 1.15% (recovered the following month). “The loss came from a systematic FX manager who exercised discretion to override the systems, and crystallized losses at the low. Had he trusted the systems, his losses would have been acceptable,” says Guibaud.
AlphaBee Multi Arbitrage’s own volatility has been remarkably low, ranging between 1.5% and 2.8%, and averaging 2.3%, which is at the lower end of the target range of 2-4%. More importantly, the return profile has a positive skew and has made money in 80% of months.
AlphaBee Multi Arbitrage wants to play a defensive role so that its investors can ‘sleep well at night’ as the seeding family office’s patriarch once put it.
Frederic Guibaud, Co-Founder, AlphaBee
The low volatility has not arisen from “stale pricing” issues relating to infrequent pricing or theoretical valuations. The underlying managers are trading equities, futures, currencies and some liquid OTC commodities. AlphaBee does not invest in Level 3 “mark to model” assets. The book is mainly in Level 1 “mark to market” assets such as futures and options or swaps that are Level 2 or “mark to quote”.
AlphaBee’s liquidity stress tests reflect the team’s long career experience through several crises, and they are cautious on some asset classes that may currently appear to be liquid. “Corporate credit and convertibles are avoided due to having seen liquidity evaporate in 2008, and because of tail risk concerns. Fixed income and mortgage arbitrage are avoided due to systemic risk,” says Guibaud.
“Ultimately, AlphaBee Multi Arbitrage wants to play a defensive role so that its investors can “sleep well at night” as the seeding family office’s patriarch once put it. Testimony to this can be seen in the chart below which plots net returns of the fund versus an ETF on the MSCI World in a volatile period for equities, from September 2021 to December 2022,” says Guibaud.
AlphaBee Multi-Arbitrage has around 25% in commodities, and has also spawned a commodity fund of funds, AlphaBee Commodity Arbitrage, which has much higher volatility and return targets: a volatility target range of 6-10% and a return target of 10-20%, whereas the AlphaBee Multi Arbitrage strategy is designed to be more defensive. For the moment, capacity for the commodity strategy is estimated at USD 80 million. It includes systematic arbitrage managers or very specialized and experienced discretionary commodity managers analysing factors such as supply, demand, storage and weather.
Guibaud is confident about the long-term alpha generation of commodities: “We started allocating to commodity strategies in 2018, and we think we understand why they are doing so well. They cannot be manipulated by central banks in the way that financial assets are, and there are real needs for commodities. Every commodity contract has a finite time horizon, in stark contrast to fantasy assets such as technology stocks or crypto currencies”.
AlphaBee Multi-Arbitrage’s commodity exposure is not dependent on the directionality of commodities. “Rather, just like for the remainder of the portfolio, a “healthy volatility level” is the most conducive environment. This can be seen in the graph below, plotting the fund’s commodity strategies’ return against commodity indices since the start of the war in Ukraine in February 2022,” says Guibaud.
The commodity strategy has attracted interest from the US. Since May 2023, AlphaBee team members are sub-advising a third AlphaBee vehicle, a US Delaware structure on the Kettera Strategies’ Hydra platform in Chicago, which caters for the strategy allocation, vehicle choice, tax efficiency and tax reporting preferences of a US family. “A single-family office from the East Coast of the US did thorough due diligence and our commodity fund caught their attention. They need a US fund for K1 tax reporting. There is also a requirement for all transactions to be done in futures or other liquid derivatives for tax efficiency, which rules out some strategies,” explains Guibaud. The core of the new account will have a high overlap with the commodity fund, but there are also satellite allocations, for example in volatility arbitrage and FX arbitrage. The US structure can potentially also invest in managed accounts, in contrast to AlphaBee’s Luxembourg domiciled fund of funds.
The AlphaBee investment process entails quantitative and qualitative analysis fed into the investment committee. AlphaBee places heavy emphasis on conducting onsite visits in the US, Europe and Asia, as part of an extensive operational due diligence process.
In theory, either AlphaBee’s chief risk officer, or its alternative investment fund manager (AIFM), MC Square, can exercise veto rights, though in practice they have historically alerted the investment team to risk considerations. “The AIFM review all documented recommendations, documents and due diligence, and their approval process is mainly focused on the legal and regulatory framework: carrying out AML and KYC, checking administrators, directors, audits and so on,” explains Guibaud.
MC Square was selected as AIFM as AlphaBee has surpassed EUR 100 million of assets. MC Square was chosen partly for their expertise in liquid alternatives, which is not always easy to find in a Luxembourg fund market dominated by long only, UCITS, ETFs, real estate and private equity. MC Square’s principals had experience in structured finance, banking, operations and law before founding the firm in 1988. “We also know them personally. They have a good reputation,” says Guibaud.
Apex was chosen as administrator partly because of its hedge fund experience and expertise, and the package includes Apex’s subsidiary European Depositary Bank SA (EDB). EY is auditor and has the largest footprint in hedge funds, according to some surveys.
In many cases AlphaBee has obtained fee discounts through early bird or founders’ share classes or other arrangements. A synthetic total expense ratio (STER) can start as low as 1.70%, which includes AlphaBee’s fees and underlying manager fees, and expenses, but does not include performance fees at either level. Most investors in AlphaBee Multi Arbitrage pay 1% management fee and 10% performance fee, though there is also a share class with no management fee and 30% performance fee. “This was designed to cater for those investors who are sceptical about the value of paying an extra layer of fees for active fund selection and portfolio asset allocation, but since we launched it, an investment in the 0% management class would have cost considerably more than the regular share class,” points out Guibaud, who is confident about finding uncorrelated alpha generators and is attracting a growing variety of institutional investors.
The investor base for AlphaBee’s two Luxembourg domiciled funds started with the family office and the AlphaBee team’s investments who have a significant part of their liquid assets in the strategy. It has now broadened out to include foundations, single- and multi-family offices, wealth managers, insurance companies and banks.
AlphaBee has opted out of disclosures under SFDR, on the basis that sustainability risks and principle adverse impacts are not applicable or feasible in analysis, portfolio construction or risk management. This mainly relates to the environmental and social factors however. “ESG certainly is important to us and we continue to monitor how we can best integrate environmental and social factors in our research and analysis. What is already present since launch of the fund is a huge governance filter in the due diligence process,” says Guibaud.