RiverPark Short Term High Yield (RPHYX): input from the manager on turnover, expenses, capacity

David_Snowball

Dear friends,

The thread "RPHYX Expense Ratio" evolved to address several other questions. Since they seemed sensible and I didn't want to trust my memory, I asked the fund's manager - David Sherman of Cohanzick Management - if he'd take a moment to share some information. He did.

1. On the fund's high turnover: he suspects that it's a statistical artifact since the fund actually trades very little.

Cohanzick executes very few actual sales in the portfolio (and we can get a specific idea for you) and when Cohanzick does execute sales the transactions occur generally to rebalance the portfolio with a more attractive and generally higher yielding position. Another potential sale might be to meet mutual fund outflows; although I cannot recall a recent sale for this purpose.

Occasionally, we may also sell for credit purposes. Again, I cannot think of a recent specific example at this time but a sale could occur if a credit concern or original premise of purchase is not panning out.

He's very aware of the frictional costs of trading, especially such short-term products, and so "we don’t generally sell."

2. On the fund's expense ratio: because he's a sub-adviser, the expense ratio reimbursement is not under his control but he believes that the 1.25% cap remains a ceiling. That is, even if RiverPark attempts to recapture the previously waived expenses, their recapture still would not push the total e.r. about 1.25%.

3. On the strategy's capacity: the exact capacity is determined by market conditions. That said, "As a general rule of thumb, we believe our capacity is probably between $500MM and $1,000MM. Obviously as we grow and the market evolves, we will continue to evaluate. I am prepared to soft or hard close the mutual fund when deemed necessary."

Thanks to Mr. Sherman and the folks at RiverPark for their quick response. Their willingness to share makes a big difference.

With respect,

David

msf

David,

Thanks for the updates. Still don't know what's causing that turnover figure, but then again, I've never understood how some bond funds show figures over 500% (it's almost impossible to trade that fast, at least deliberately).

The description of how the recapture would work (i.e. must remain under a cap) is correct; the question is whether that cap will be raised (it doesn't require shareholder approval to raise the cap). For example, if the fund got larger, rather than closing, it could raise the cap, letting the higher fees serve as a disincentive to investors while still keeping enough investors around to benefit from the higher fees. Not saying that this would happen (can't point to a single specific instance where I've seen that sequence of events), but it does provide motive and opportunity for a higher cap.

Regarding the capacity - I noticed that for the past couple of years, Riverpark has been filing applications with the SEC for actively managed ETFs, including what looks to be a clone of this fund. Do you know anything about that, and would that eat into the capacity of the open end fund?

(Earlier, Riverpark sub-advised some actively managed ETFs, not including a clone of this fund, run by Grail Advisors, which subsequently got sold to Columbia).

David_Snowball

Reply to @msf: Hi, msf!

Mr. Sherman admits that he also doesn't know exactly how fund companies are required to calculate turnover rates for the SEC. (He's primarily a hedge fund kind of guy.) He suggested that I chat with the folks at RiverPark about it, but I'm not sure that's a great use of time right now since (a) I'm buried and (b) he's affirmed the proposition that the fund does not actively trade, or churn, its portfolio.

With regard to the cap, RiverPark has - so far as I can tell - no intention of raising it, period.

The capacity limit is imposed on the strategy, not on the vehicle. That is, he believes that he can invest a total of somewhere between $500M-$1B in these sorts of bonds. That total includes assets in the fund, an ETF, separate accounts (if any) and so on.

Hope that helps,

David

msf

Thanks again David. I agree that pursuing turnover calculations is not productive (and would appear to be a generic bond fund question, not one particular to Riverpark).

One hopes the cap stays in place; well, one hopes that the total expenses drop below 1.25%

So if they do launch the ETF, the capacity of the open end fund would be less than the $1B (give or take) stated, since one would have to subtract off the ETF assets. Something to keep in mind when looking at the capacity numbers.

Very helpful. Thanks.

Derf

I recently received annual report for above fund ending date Sept 30, 2011.
It shows approximate 1 % return.

And so it goes,
Derf

Investor

Reply to @Derf: I think if you visit M*, you get most up to date return. However, this discussion was on ER, turnover and capacity.

Derf

Investor: I just thought investors should Know what the return was ! Risk VS return !

Have a nice weekend,
Derf

David_Snowball

Reply to @Derf: Hi, Derf.

Over the past 12 months, RPHYX has returned 3.49% (through 12/08/11). It's a hard fund to benchmark. Morningstar considers it a high yield fund, which is understandable but wildly inappropriate since the risk/return characteristics of the called (or likely-to-be-called) bonds in their portfolio is very different from a typical HY fund. The best of the high-yield one year CDs pay 1.1%. MetWest Ultra Short Bond (MWUSX) is up 0.5%, Wells Fargo Ultra Short (STADX) is 0.4%, Fidelity Advisor Ultra Short (FUBIX) is 0%. Vanguard Short-Term Bond (BSV) is up about 2.9%.

We can say that share price (i.e., NAV) volatility is about 1%. That is, the 52 week range of share prices has been between $9.86 - $10.03 against a $10.00 NAV. Much of the NAV drop, though, is illusory. Two reasons. First, it assumes that the fund is going to try to send their bonds rather than hold them to redemption. In general, they don't. Second, most is driven by monthly income distributions.

For what it's worth,

David

David_Snowball

Dear friends,

In our original discussion on RPHYX, I argued that the fund's turnover was artificially inflated by the fact that they're constantly redeeming bonds. One respondent argued that redeemed bonds do not count in the fund's turnover ratio. Since I wasn't sure, I asked.

RiverPark's President, Morty Schaja, writes:

Turnover is generally based on the lower of fund sales and purchases to take into account fund flows. Redeemed bonds count. The average duration of the fund is about six months and nearly 70% of the portfolio has an expected maturity of less than two months. Therefore, securities that will mature or be redeemed alone, will contribute to a high turnover. While the transaction costs of redeemed bonds is negligible, the Fund does incur transactions costs when it goes into the market to reinvest the proceeds from a redeemed bond. These expenses are not included in the Fund’s operating expense ratio, but have a negative [e]ffect on the Fund’s investment performance. The Fund’s return since its inception in October 2010 of 4.22% is net of all expenses including transaction costs.

Mr. Schaja reaffirms the manager's expectation on the expense recovery: the fund will not charge more than 1.25%, though it may delay decreasing the expense ratio by a bit so that the adviser can recoup some of the money it's now losing on the fund's operations.

For what it's worth,

David

msf

We have to be very careful about what words mean. "Expected maturity" is an informed hope, the "date on which principal of a bond or note is projected to be repaid based on assumptions about project performance." Definition from AMEX.

The average maturity of the Sept 30th portfolio, dollar weighted, was about 2.75 years. That includes a negative maturity length accorded a bond that was supposed to mature in 2009 (WaMu) that was in default but still on the books.

Bonds removed from the portfolio, whether by sale or redemption don't count if they were acquired within one year of maturity (not expected maturity). The SEC instructions for Form N-SAR state:

ITEM 71: Portfolio turnover rate
For purposes of this item, there shall be excluded from both the numerator and denominator all securities ... whose maturity or expiration date at the time of acquisition were one year or less.

The instructions for item 71 also say that "A money market should enter a portfolio turnover rate of "0" even if it owns securities that have maturities in excess of a year." (This goes to David's comment that this bond fund, like MMFs, has a naturally high turnover. MMFs have zero turnover, by fiat.)

For completeness, here's the semi-annual N-SAR filing for March, 2011. If you look at the Answer.fil file, you'll see the line:
071 D000400 295
and other 071 lines around it with figures of 47, 17, 60, and 4. These correspond to the turnover ratios shown in the (human readable) semi-annual statement for the Riverpark funds. The 295% turnover is for the fund in question. (In the later Sept 30th annual report, the turnover jumped to 454%.)

The cost of redeeming bonds is indeed minimal. So in terms of trading costs, we can approximately cut the turnover rate in half. That still leaves a 150%-225% turnover rate. To put that in perspective: roughly 1/6 of taxable bond funds have turnovers over 200%; 1/20th of junk bond funds have turnovers over 200%; 1/12 of ultra short bond funds and short term bond funds, no bank loan funds. So even allowing for the fact that bond redemption are "free", this is going to cost a lot in commissions, spreads, etc.