- Hedge strategies came under pressure in 2016, but the landscape is changing
The potential benefits, such as downside protection during periods of market volatility, remain intact.
- Distressed securities may offer attractive opportunities in 2017
European banks are attempting to repair their balance sheets by offloading certain securities and non-core businesses.
- Venture capital is another area of focus for us in 2017
We have no doubt that the Microsofts and Googles of the future are being incubated today. Our challenge is to find them.
View Our Full 2017 OUTLOOK
Alternative investment strategies encompass a wide variety of disciplines beyond traditional stocks and bonds, each with its own distinctive goals and characteristics.
While we are more enthusiastic about some strategies than others in 2017, our general view is that they all offer one important feature: the ability to help manage volatility and preserve capital in a diversified portfolio. Hedge funds:
While 2016 was a difficult year for the hedge fund industry, we believe the key culprit was market dynamics: record-low interest rates and relatively low levels of volatility. But this macroeconomic backdrop will not continue forever. Special situations:
In general, we believe that one of the most compelling opportunity sets in 2017 could be distressed securities, particularly in the European non-performing loan category. Venture capital:
We continue to see innovation as an attractive long-term investment theme.
Private equity: The category is in the midst of a renaissance, enjoying a period of strong performance from realizations and an improved appetite from investors. Real estate:
In our view, real estate appears to have recovered from the financial crisis and may therefore have limited upside potential in 2017. Commodities:
Like real estate, commodities can provide a hedge against inflation. But the category could face headwinds in 2017.
Liquid Alternatives Can Help Mitigate Risk
In essence, liquid alternatives are mutual funds that invest in asset classes and strategies that have traditionally been associated with hedge funds. In mid-2015, we identified the liquid alternatives category as appropriate for consideration for all investors across a wide range of portfolio objectives.
Despite the challenges faced by hedge funds in 2016, we believe the key benefit of liquid alternatives—potential downside protection during periods of negative market performance—remains intact. In fact, we have seen that when deployed properly, liquid alternatives can help insulate 70% to 80% of investor capital during significant market downturns. We continue to encourage clients to use liquid alternatives to reduce a portfolio’s reliance on equity market returns.
Our Most Compelling Idea: Distressed Securities
In general, the distressed securities category refers to investments in companies that are overleveraged. This may include companies that no longer have the ability to grow or support their debt through further issuance of corporate bonds. It may also refer to borrowers who don’t have the ability to stay current on their loans, or who have experienced impaired valuation levels on their collateral. These are often complex situations that may include bankruptcy, foreclosure or principal forgiveness.
We feel that one of the most compelling opportunities in 2017 is indeed distressed securities, particularly in the European non-performing loan category.
European companies that are over-leveraged are attempting to repair their balance sheets by offloading certain securities (liquid and illiquid) and non-core businesses.
This multi-year opportunity is already underway. Asset management firms such as private equity and hedge fund sponsors have created special vehicles to purchase these non-performing loans, investments and businesses from the banks. Ideally, European banks will sell more than €1 trillion worth of non-performing loans and other assets.
While there has been much discussion about the large amounts of capital raised by such vehicles (2016 marked the third consecutive year European banks sold roughly €80 billion in distressed assets), it represents a fraction of the full, long-term opportunity set. By some measures, more than €2.5 trillion needs to move off the balance sheets of European banks.
Venture capital and private equity
Venture capital is another area of focus for us in 2017 as we find innovation to be an attractive long-term investment theme. Entrepreneurs with vision and drive continue to feed technological advancements and respond to consumer demand.
In private equity, we continue to urge clients to focus on quality and diversification, including factors such as vintage year, investment stage, sector emphasis and investment approach.
Real estate and commodities
Real estate valuations have essentially recovered from the lows seen during the financial crisis, particularly in metropolitan areas and regions with attractive growth dynamics. Given where we are in the real estate cycle, we are more comfortable being underweight going into 2017.
Commodities are usually a good diversifier for portfolios during periods of unanticipated inflation, although income opportunities are limited. We find commodities to be a challenging category for most of our clients due to the onerous tax implications they carry and the speculative nature of the commodities market.
This communication is intended solely to provide general information. The information and opinions stated are as of December 2016, and may change without notice. The information and opinions do not represent a complete analysis of every material fact regarding any market, industry, sector or security. Statements of fact have been obtained from sources deemed reliable, but no representation is made as to their completeness or accuracy. The opinions expressed are not intended as individual investment, tax or estate planning advice or as a recommendation of any particular security, strategy or investment product. Please consult your personal advisor to determine whether this information may be appropriate for you. This information is provided solely for insight into our general management philosophy and process. Historical performance does not guarantee future results and results may differ over future time periods.
IRS Circular 230 Notice: Pursuant to relevant U.S. Treasury regulations, we inform you that any tax advice contained in this communication is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. You should seek advice based on your particular circumstances from your tax advisor.