Global Perspectives: Seeking to mitigate risk with Alternatives
Steve Cain and David Elms from the Diversified Alternatives team join Adam Hetts, Global Head of Portfolio Construction and Strategy, to discuss liquid alternatives at a time when investors are re-evaluating more traditional portfolio allocation philosophies.
34 minute listen
- Inflation remains a key factor in determining the shape of investors’ portfolios. A lot depends on whether we are at the end of the inflationary cycle, with disinflation ahead, or if inflation is going to be more persistent.
- We believe a multi-strategy approach should be designed to deliver consistent, long-term returns uncorrelated to traditional assets and seek to balance exposure to a range of adaptive “alternative” strategies designed to thrive in abnormal market environments.
- The ability to adjust exposure to the varying underlying strategies is a powerful tool that can help investors to capture different forms of stress or opportunity in the marketplace.
Basis point (bp) equals 1/100 of a percentage point. 1 bp = 0.01%, 100 bps = 1%.
Beta measures the volatility of a security or portfolio relative to an index. Less than one means lower volatility than the index; more than one means greater volatility.
A call option is a derivatives contract giving the owner the right, but not the obligation, to buy a specified amount of an underlying security at a specified price within a specified time.
Consumer Price Index (CPI) is an unmanaged index representing the rate of inflation of the U.S. consumer prices as determined by the U.S. Department of Labor Statistics.
Correlation measures the degree to which two variables move in relation to each other. A value of 1.0 implies movement in parallel, -1.0 implies movement in opposite directions, and 0.0 implies no relationship.
Coupon: A regular interest payment that is paid on a bond. It is described as a percentage of the face value of an investment. For example, if a bond has a face value of £100 and a 5% annual coupon, the bond will pay £5 a year in interest.
Covariance measures the directional relationship between the returns on two assets. A positive covariance means asset returns move together, while a negative covariance means they move inversely.
Duration measures a bond price’s sensitivity to changes in interest rates. The longer a bond’s duration, the higher its sensitivity to changes in interest rates and vice versa.
Margin call: A margin call occurs when a margin account runs low on funds, usually because of a losing trade.
Portfolio protection: Preservation-of-capital techniques include diversifying holdings over different asset classes and choosing assets that are non-correlating.
Put options give holders of the option the right, but not the obligation, to sell a specified amount of an underlying security at a specified price within a specified time frame.
Polarity: The idea that former support turns into resistance and former resistance turns into support.
Risk premia: In alternatives investing, risk premia are investment strategies that aim to systematically isolate and harvest excess returns from exposure to specific risk factors or returns arising from behavioral or structural market anomalies.
Option skew: The observation that not all options on the same underlying asset and expiration have the same implied volatility assigned to them in the market.
SPAC: A special purpose acquisition company (SPAC) is formed to raise money through an initial public offering (IPO) to buy another company.
Standard Deviation measures historical volatility. Higher standard deviation implies greater volatility.
Tail risk: The risk that the performance of an investment will move more than three standard deviations away from the mean suggested by a normal distribution curve. These are considered events that have a small probability of occurring, but which could have a significant effect on performance were they to arise. They occur at both ends of a normal distribution curve, with ‘left-hand tail risk’ the term used to describe negative tail risk factors, and ‘right-hand tail risk’ describing unlikely events that would have a positive impact on performance
Fixed income securities are subject to interest rate, inflation, credit and default risk. As interest rates rise, bond prices usually fall, and vice versa.
High-yield bonds, or “junk” bonds, involve a greater risk of default and price volatility.
Foreign securities, including sovereign debt, are subject to currency fluctuations, political and economic uncertainty and increased volatility and lower liquidity, all of which are magnified in emerging markets.
Please read the following important information regarding funds related to this article.
- Shares/Units can lose value rapidly, and typically involve higher risks than bonds or money market instruments. The value of your investment may fall as a result.
- An issuer of a bond (or money market instrument) may become unable or unwilling to pay interest or repay capital to the Fund. If this happens or the market perceives this may happen, the value of the bond will fall. High yielding (non-investment grade) bonds are more speculative and more sensitive to adverse changes in market conditions.
- When interest rates rise (or fall), the prices of different securities will be affected differently. In particular, bond values generally fall when interest rates rise (or are expected to rise). This risk is typically greater the longer the maturity of a bond investment.
- The Fund may use derivatives to help achieve its investment objective. This can result in leverage (higher levels of debt), which can magnify an investment outcome. Gains or losses to the Fund may therefore be greater than the cost of the derivative. Derivatives also introduce other risks, in particular, that a derivative counterparty may not meet its contractual obligations.
- If the Fund holds assets in currencies other than the base currency of the Fund, or you invest in a share/unit class of a different currency to the Fund (unless hedged, i.e. mitigated by taking an offsetting position in a related security), the value of your investment may be impacted by changes in exchange rates.
- When the Fund, or a share/unit class, seeks to mitigate exchange rate movements of a currency relative to the base currency (hedge), the hedging strategy itself may positively or negatively impact the value of the Fund due to differences in short-term interest rates between the currencies.
- Securities within the Fund could become hard to value or to sell at a desired time and price, especially in extreme market conditions when asset prices may be falling, increasing the risk of investment losses.
- The Fund involves a high level of buying and selling activity and as such will incur a higher level of transaction costs than a fund that trades less frequently. These transaction costs are in addition to the Fund's Ongoing Charges.
- The Fund may invest in contingent convertible bonds (CoCos), which can fall sharply in value if the financial strength of an issuer weakens and a predetermined trigger event causes the bonds to be converted into shares of the issuer or to be partly or wholly written off.
- The Fund could lose money if a counterparty with which the Fund trades becomes unwilling or unable to meet its obligations, or as a result of failure or delay in operational processes or the failure of a third party provider.
- SPACs are shell companies set up to acquire businesses. They are complex and often lack the transparency of established companies, and therefore present greater risks to investors.