The paper, titled ‘Portfolio Transformers: Examining the Role of Hedge Funds as Substitutes and Diversifiers in an Investor Portfolio’, details the specific qualities that different types of hedge funds offer to institutional investors, the main source of capital managed by the hedge fund industry today.
The research is based on a “cluster” analysis of the risk and return characteristics of the main hedge fund investment strategies.
The paper says that some of the most experienced investors in alternative investments no longer see hedge funds as a standalone allocation but rather as substitutes for investments in equities and bonds or as investments that bring particular diversification benefits.
The new analysis identifies “substitute” strategies – those that could replace a long-only allocation to stocks, bonds and other asset classes - as long/short equity, long/short credit, event-driven, fixed income arbitrage, convertible arbitrage and emerging markets. “Diversifier” strategies – those that are particularly uncorrelated to the underlying asset class - include global macro, managed futures and equity market-neutral, according to the research.
The paper is the second in a series of publications that AIMA and the CAIA Association are producing for trustees and other institutional investor fiduciaries, an audience traditionally under-served by educational material about hedge funds and other alternative investments.
Jack Inglis, CEO of AIMA, said: “This new paper underlines the heterogeneity of hedge funds today. For every type of fund, there are just as many solutions to investors’ particular requirements. The paper also makes it clear that the old distinctions that have underpinned portfolio construction for the last 25 years are disappearing. Pensions, endowments, foundations, insurers and family offices are different entities, with different challenges and divergent investment aims. But what many of them have in common is a wish to see hedge funds as another method of investing in equities, bonds and other asset classes, rather than as a separate asset class. This new thinking promises to transform the risk and return profiles of institutional investor portfolios.”
William J. Kelly, Chief Executive Officer at the CAIA Association, said: “Education is our only product and we are delighted to partner with AIMA on this latest paper. Diversification across multiple asset classes and uncorrelated sources of beta has never been more important, as global equity prices hover near fair value and interest rates remain at or close to zero. Education and informed awareness of any potential solution must be part of this investment process and it is our hope that these papers will continue to add to this understanding.”
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