Investors need to think in terms of risk premiums rather than asset classes when it comes to diversification, according to Claus Vorm, deputy head of multi-assets at Nordea Asset Management.
Traditional methods of diversification reached their limits last year when the two most important asset classes – stocks and bonds – both recorded negative performance and Vorm said this uncertainty has continued into 2023 with the two asset classes seeing another sell off in the third quarter.
“This phenomenon marks a shift for investors,” he said. “You now have to find ways to deal with the new reality and, in our view, the key to this is a change in perspective, to think in terms of risk premiums instead of asset classes.”
Nordea’s multi-assets team looks to build portfolios that are structurally balanced between the risk contributions coming from aggressive risk premia, which can perform during economic recoveries or equity bull markets, and from defensive risk premia, namely those that should bring diversification during recessions and/or bear markets.
“These liquid alternative solutions enable investors to increase the level of diversification at the portfolio level and generate positive returns with controlled risk,” said Vorm.
“Given the current difficult market environment, true diversification is needed to cushion long-term market risks,” he added.
Looking ahead, Vorm said in the longer term current bond valuations are “finally attractive” which he noted makes expected returns for multi-asset portfolios “very” attractive over the longer term.
“On the equity side, we are also optimistic long term, but we have an even higher conviction on low-risk, high quality and attractively priced stocks that can deliver stable growth,” he said.
“These stocks trade, in some cases, at historically attractive relative valuations and can add significant convexity to client portfolios when implemented via long/short strategies.”
