With absolute return strategies failing to deliver on their promise of “strong returns with low risk” many asset owners are re-thinking their allocations and restructuring their portfolios to add more alpha or risk.
The strategies have disappointed on both a relative and absolute basis when it comes to aggregate returns during a 10-year period of passive equity gains, low risk-free rates, and declining credit spreads.
The underperformance was confirmed by a poll taken at Investment Magazine’s Absolute Returns Conference. Two-thirds of delegates said their absolute return strategies had failed to meet performance targets, 13 per cent planned to cut their allocation and 44 per cent indicated they would keep their allocation steady.
Neil Williams, chief strategist at QIC, said it is important to consider time horizons when appraising the efficacy of absolute returns strategies. He said while the last decade had been challenging, it is worth considering how patient the asset owner intends to be. Williams, who called 2018 an unusual year, said he “very much doubted” there will be another year like it (like what??) and noted that returns are improving. Further, he argued that while the value of total portfolios might have been dragged down, this was the result of low, rather than negative, correlations.
QIC uses a clutch of fund managers to diversify. “For instance, if you just have equity value mangers and that factor is struggling you can’t offset it,” he said. Williams focussed panellists on what they were trying to achieve. “People label themselves as defensive or aggressive – the latter want higher returns and therefor volatility. Defensive approach will seek a low correlation with the goal of achieving diversification.”
Robert Graham-Smith, a senior investment analyst at Mine Super , said with alpha being so scarce in the last decade any managers that can consistently deliver “deserve to charge a premium.” The analyst said he is seeking diversification rather than alpha. He stressed the importance of deciding whether absolute returns are adopted as part of diversification of the total portfolio or if they are being scrutinised as a distinct bucket.
For her part, Anastassia Juventin, AMP Capital’s portfolio manager, hedge funds and alternative strategies, said that she was looking to both diversify and generate alpha. AMP Capital engages in a mixture of strategies with each having a different volatility target.
“The most recently risk premia added was to deliver high volatility to the book. Sometimes we go with existing strategies sometimes modification but leverage (and some of the strategies like value and single stock) is one of the reasons we saw a drawdown last year,” Juventin said. “Our approach was to invest in a number of managers who were in a diversified range of risk premia and who played the market in different ways.”
The AMP Capital portfolio manager highlighted the importance of communication especially with hedge funds because they had not delivered on expectations. “This has been a big shift in hedge fund land and transparency has increased,” she said. “They are not a backbox strategy anymore.”
Robert Swan, QIC’s head of liquid alternatives, concluded that that diversification can come from a range of sources, even where the same strategy is being deployed.“When you bring these mangers together you get the diversification, but you might not be diversifying the tail in that so the returns will be more skewed if you have one manager.”