As the S&P 500 (INDEXSP:.INX) essentially limped along in May, long short hedge fund Amici was up nearly 7% in its Amici Strategy Fund. The strong May is good news for the hedge fund, which struggled after the recent death of strategy founder Alex Porter.

Alex Porter  Amici

Amici “friends” with benefits from relative value strategy

Porter, who first founded Porter Management in 1976, which was later changed to Porter Orlin before becoming Amici, passed on April 18, 2014.  Amici translates to “friends” in Latin and it refers to the initial few investors he found among his friends.  The firm now has 27 employees and $2.146 billion under management, according to an investment letter recently reviewed by ValueWalk.

The primarily trading strategy is long-short relative value play in stocks.  Sources indicate the team likes to trade within different sectors, selling a momentum tech stock, for instance while purchasing a financial sector stock. Such s strategy, when executed on an even basis between the buy and sell sides, isolates the investor to a degree from overall stock market risk as the short exposure and long exposure would ideally rise and fall at the same percentages during an overall market crash.

Partial strategy risk analysis

A significant risk exposure in the relative value strategy is not only the alpha of the individual manager, but also the percentage of allocation they have both long and short.

Index performance numbers will show that long / short hedge funds are typically correlated to the stock market during crashes. This is due to the fact their relative value trades are typically leveraged to the long side. Typical ratios in an equity hedge fund long / short strategy might see 70 percent to 80 percent long to 30 percent or 40 percent short.  In managed futures, for a point of reference, long short ratios in relative value spreads are known to work closer to 50 percent balance.

When operated close to a 50/50 basis, the strategy results in managed futures prove out the theoretical assumption that such a balanced relative value strategy would be equity market neutral.  Within a relative value strategy, however, it should be noted that some managed futures hedge funds utilize a trend following strategy for their spread trading.  This observes momentum patterns between the variance of two different investments and helps the relative value fund manager determine the stage of divergence a spread could be experiencing.  At extreme divergence points, relative value traders are known to establish a position and then watch for convergence back to the mean.

Old spread trading norms giving way to new life

This spread trading strategy initially found its roots trading the same product category. The now crowded strategy of playing what is known as the “crack” spread in the oil market, buying oil, for instance, and selling petroleum products, for instance.  This well worn strategy has given way to sophisticated relationships between products or stocks that might not have an outward correlation to one another but, during a market crash, can deliver clutch performance.