The merits of 60/40 portfolios have been called into further question after a new survey revealed that four in 10 high net worth investors (HNWI) have weightings of more than 20% in alternative assets.
As the sharp downside pressure for both equities and bonds this year drives investors to seek out investments offering true diversification, the Alternative Assets Study, carried out by Connection Capital, found that one in three HNWI’s plan to increase their exposure to alternatives over the next 12 months, compared with just one in seven for quoted equities.
With alternative assets encompassing private equity, private debt, commercial property, infrastructure and alternative fund strategies, the study revealed their use has surged in the last five years.
In 2018, when the first study was conducted, just a quarter (26%) of respondents had 20% or more of their portfolios invested in alternatives, and this had risen to about a third (35%) last year.
“Experienced private investors are not just dabbling in alternative investments – many are carving out a significant space for them as a vital component of their portfolios,” said Claire Madden, managing partner at Connection Capital.
“Inflation, rising interest rates, recessionary fears and geopolitical risks have re-ignited turbulence in global equity and bond markets and the conventional wisdom that a 60/40 equities/bond split is a safe diversification play – which has been doubtful for some time – no longer rings true,” she added.
Private equity takes the lead
Demonstrating just how mainstream the asset class has become, almost three-quarters of HNWIs (74%) are now allocating more than 10% of their portfolios to alternative investments, up from just over two-thirds (68%) last year and half (50%) in 2018.
Private equity was the most sought-after alternative investment class, with single private equity transactions and growth and buyout funds seeing most interest from private investors, followed by special situations and distressed debt funds, later stage venture capital investments and PE secondaries strategies.
Erik Knutzen, chief investment officer – multi-asset class at Neuberger Berman, said while the outlook remains challenging for equities, the group continues to favour hedge funds and other liquid alternative strategies, which have the potential to deliver “uncorrelated return streams”.
“We particularly favour strategies that are fundamentally uncorrelated, such as insurance-linked strategies, or seek to harvest a volatility premium, like option put-write strategies, or take advantage of global macro trends or short-term trading opportunities,” he said.
“We also retain our overweight view on private markets,” he added. “We particularly favour real estate for its inflation sensitivity, which comes from the supply constraints associated with costlier building materials and wages, and the natural and contractual exposure baked into many leases.”
Sushil Wadhwani, manager of the PGIM Wadhwani Keynes Systematic Absolute Return fund, added while it is rare for stocks and bonds to decline together, the correlated fall of major asset classes this year does pose a “conundrum” for the traditional 60/40 portfolio model.
“In this uncertain environment, the need for diversification is palpable,” he said. “Portable alpha approaches are very well suited to today’s challenging investment landscape because of the low correlation to equities and bonds and the ability to generate returns in the neighbourhood of cash plus 4%.”
Asset class diversification
As a result, Wadhwani said the diversifying role these approaches can play in portfolios is to mitigate equity risk.
“Given the wide variety of potential economic outcomes, it is especially important to remain agile and responsive to the evolving economic data,” he added. “It is also necessary to remain diversified across asset classes, investment styles, and time frames, and to choose solutions with a low beta to traditional markets over a full market cycle.”
For Wadhwani, agile strategies should deliver low average holding periods across positions and emphasise capital preservation. He added that it is also essential to consider taking both long and short positions in volatile, quickly changing market environments.
“Including a global macro approach can be an attractive way for investors to gain both a wide investment universe and agility,” he said.
“Global macro has delivered strong absolute returns and relative returns versus stocks, bonds, and real estate this year, making it an attractive portfolio diversifier and alternate return source through rising rates and inflation.”
