January’s wild ride set the tone for a jittery year in market performance. While the first quarter of 2016 has managed thus far to recover from its precipitous initial swoon, investors aren’t feeling comfortable with the current state of affairs. Fed policy regarding interest rate direction, a strong dollar, and depressed commodities are key factors weighing on markets in 2016. But the largest wildcard and millstone around the neck of 2016’s market performance will be the struggling global economy. Terrorist activism combined with stalled or declining economies led by China are likely to dictate in large measure the course of the market in 2016.
It's a Mad, Mad World
UBS summarized the investor angst nicely in their first quarter report: Investors realize they can no longer ignore the impact of these forces on their portfolios. They also find that the global nature of current issues, such as the Chinese economy and the collapse in oil prices, makes it difficult to gauge where things are headed... Nine out of 10 have held their cash steady or increased it since the crisis… When it comes to putting their money to work, investors seem paralyzed—only 33% see market declines as opportunities to deploy cash (UBS Investor Watch: Analyzing investor sentiment and behavior 1Q 2016).
But all is not doom and gloom on the horizon. The need for strategic planning in portfolios to gain adequate exposure to profits while balancing overall risks makes for spirited discussions between investors and advisors. Emerging managers in the alternatives space are a vital piece of this dialogue, as they have the skills and strategies to deliver on alternative return streams in both up and down markets. Despite their deep-seated reticence to go out on the proverbial active market limb, investors show an increased interest to hear about specialized strategies from emerging managers that are proven to be nimble, differentiated, and successful in post-crisis markets, particularly on the short side.
It Depends on What the Definition of ‘Down’ is…
What markets might be in decline in 2016, and how can alternatives capitalize on them? According to Cambridge Associates in their newsletter, Outlook 2016: Do You Know Where Your Risk Tolerance Is?, the broadly diversified Bloomberg Commodity Index is down 46% on a spot price basis since its 2011 peak, and total returns for sub-indexes are broadly negative for that period, ranging from -21% cumulatively for livestock to -71% for energy.
In this climate, managed futures offer multiple opportunities to earn profits from short positions in the volatility impacting commodities, financials and equities. In addition, global macro managers can also benefit from a tightening of US fiscal policy contrasted with general easing of global fiscal stances. And long/short equity managers can capitalize on the shift in fiscal stance the Fed has signaled at the end of 2015, which should bring more potential opportunities to profit on the short side of the portfolio. Preqin’s data seems to support this, as their release: Investor Outlook: Alternative Assets H1 2016 shows the more liquid strategies are the most attractive to investors in 2016. Equity strategies, macro strategies and managed futures/CTAs all look set to see the largest inflows in 2016.
The universe of alternatives strategies is not limited to the three approaches above. Investors can also look to additional strategies and approaches that may provide opportunities to capitalize on the short side. Some examples of such strategies where alternatives fund managers can excel in 2016 include:
- Hard assets
- Emerging markets
- Quantitative “black-box” systems
- Market neutral
Accepting the Exceptional
Regardless of the particular approach, in this bellwether year of change, alternatives money managers will need to be highly adaptable, well-organized, in possession of superior analytical and investment management skills, and narrowly focused, even niche-like, to be value-additive. Investors don’t need more of what they already possess in their portfolios; they need different in a dynamic, game-changing way.
The successful emerging managers present an attractive option to investors for several reasons. One, they are likely to be narrowly focused in one of the areas mentioned above, with some unique insight or access to market penetration that yields attractive results. Two, if they incorporate a strategic emphasis on shorting, they are also likely to be nimble and adaptable to rapidly changing market conditions, Three, as a growing business, these managers are also likely to entertain some flexibility in fees to gain new investors, and to be responsive to investor’s needs for information and transparency. And finally, these managers tend to invest in opportunities that fall beneath the size of investment larger managers concentrate on, and so offer differentiation in both portfolio holdings and performance outcome.
Jerry Kraus of Cambridge Associates summarized this dynamic when he referenced hedge funds as an investment option in the CA newsletter, Perspectives, (fall/winter 2015): “As an investor, you need to consider whether you can identify another investment that offers a more cost-effective alternative that helps you generate an equal amount of return from non-equity sources,” he says. “Chances are, you can’t.”
Diane Harrison is principal and owner of Panegyric Marketing, a strategic marketing communications firm founded in 2002 specializing in alternative assets. She has over 25 years’ of expertise in hedge fund and private equity marketing, investor relations, articles, white papers, blog posts, and other thought leadership deliverables. In 2016, Panegyric Marketing has been shortlisted for Family Wealth Report’s Outstanding Contribution to Wealth Management Thought Leadership and received AI Hedge Fund's Outstanding Contribution to Wealth Management Thought Leadership. A published author and speaker, Ms. Harrison’s work has appeared in many industry publications, both in print and on-line. To read more of her published work in alternatives, please visit www.scribd.com/dahhome. Contact: firstname.lastname@example.org or visit www.panegyricmarketing.com.