However, it should be noted that many investors have also failed to define realistic investment targets. Harcourt Advisory has identified three groups of hedge fund strategies with distinct return and risk characteristics. The added value of the first group comes from alpha generated through superior security selection (selection alpha).
However, these strategies do not deliver pure alpha, as the alpha comes together with some (traditional) beta exposure (mainly to equity and credit markets). This means that these hedge funds, while delivering alpha, are not uncorrelated to an investor's traditional portfolio. The optimal use of this first group of hedge fund strategies is as a substitute for active long-only managers.
A second group of hedge fund strategies focuses on generating timely alpha. The success of these strategies depends on the correct timing of long and short exposure in equities, bonds, currencies and commodities.
Successful market timers tend to have a higher correlation to risky assets in up markets than in down markets. Therefore, hedge funds belonging to the second group are perfect diversifiers. Additionally, they can also be used as a tool for downside protection.
The special characteristic of the third group of hedge fund strategies is that they provide access to additional sources of return that we call risk premium or non-traditional beta. The premium is earned from bearing risks such as volatility risk (attached to an option), liquidity risk (typically attached to assets with limited or no public trading activity), or event risk (where the event can be a corporate event but also a natural catastrophe). These risk premiums come with fat tails, and tend to show a higher correlation to risky assets in down markets than in up markets.
Full article
© Hedgeweek
Key
Hover over the blue highlighted
text to view the acronym meaning
Hover
over these icons for more information
Comments:
No Comments for this Article