Investing in Liquid Alternatives Our Pure Strategies

Transcription

1 Investing in Liquid Alternatives Our Pure Strategies For institutional investors only Harcourt Investors Insight

2 Content 3 Executive Summary The quest for diversification and absolute returns 4 History From the script to the creation of the Pure Strategies 5 Pure Strategies The making of the Pure Strategies 6 Creating robust portfolios with Liquid Alternatives 8 How can you invest? 9 Conclusion Cost-efficient, transparent and liquid 10 Management Our Pure Strategies team 2 Liquid Alternatives

3 Executive Summary The quest for diversification and absolute returns Since the outbreak of the financial crisis in 2008, the world s biggest central banks have flooded the financial markets with liquidity, paving the way for the current market environment marked by low interest rates. As a consequence, large investors such as insurance companies and pension funds have found it increasingly difficult to reach their investment goals and are looking for additional ways to make good on their promises to clients 1. This has involved a search for alternative risk premia strategies that can deliver suitable risk-adjusted returns by investing in a range of uncorrelated asset classes. Until recently, these highly sophisticated investment strategies have only been available to a very limited circle of smart money in vestors such as hedge funds and university endowments. While these strategy-related risk premia have generated substantial above-average returns since the early 1990s, they have come at a considerable cost in the form of high fees, a lack of transparency and illiquidity. The ensuing significant changes in the product landscape have set the stage for so-called liquid alternative strategies. These formerly exclusive strategies are now widely available as regulated mutual investment funds with all their associated benefits, resulting in additional investment oppor tunities for institutional and private investors alike. Our Pure Strategies your benefits at a glance We offer access to absolute hedge-fund-style returns while being significantly more cost-efficient, offering full transparency under the UCITS IV framework with daily liquidity/nav data. Our investment philosophy is based on our syste m- atic, well-researched and rules-based investment approach. We focus on robust, liquid alternative strategies that perform well in different market environments and provide downside protection during times of crisis due to proven diversification benefits. Strategy-specific, pure risk premia are complementary to traditional risk premia from equities and bonds, for example, thereby enhancing a portfolio s overall risk-return profile. Four dedicated portfolio managers with a combined investment experience of nearly 60 years, proven track records, and four European Hedge Fund Review (HFR) performance awards. Our liquid alternative strategies open up access to alternative risk premia which have previously only been available to some of the most sophisticated smart money investors. Furthermore, we can offer exposure through a systematic investment approach within a regulated UCITS IV mutual fund structure. 1 Euromoney (2013): Insight Financial repression hits pension funds, heaping on liability risks. Liquid Alternatives 3

4 History From the script to the creation of the Pure Strategies In 1952, Harry Markowitz s seminal paper Portfolio Selection 2 marked the financial industry s academic starting point for the concept of diversification, providing the principal blueprint for protecting portfolios against large drawdowns for decades. However, the stock-market crash in 1987 and the bursting of the IT bubble at the turn of the millennium highlighted serious practical flaws in this widely-held concept, as several usually only slightly correlated (or even uncorrelated) asset classes suddenly declined in unison. Investors who had relied on protection through diversification were left sitting with heavy losses. Consequently, the concept of diversification was broadened to include various developed and emerging markets. However, it took the financial crisis of 2008 to spur investors into seriously looking for alternative ways to improve their risk-reward ratios. Until then, these investment approaches were only familiar to the most sophisticated smart money investors, particularly university endowments, large private foundations, and well-known hedge funds (see chart 1). Alterna tive risk premia, as opposed to traditional risk premia that stem from individual asset classes such as equities and bonds, are derived from investment strategies backed by solid academic research, aiming at above-average, risk-adjusted returns over a risk-free rate. Offered through hedge-fund struc - tures, these products promised excess returns, or alpha in market speak, but often came at a high price in the form of elevated fees, low transparency and almost no regulation. Additio nally, many hedge funds were structured with long lock-up and notice periods leading to illiquidity. Increased investor demand for alternative investment strategies have paved the way for the introduction of liquid alternative strategies or so-called 40 Act Funds 3 in the USA. These funds owe their name to the Investment Company Act of 1940, introduced after the crash of 1929 and the ensuing Great Depression. The initial goal was to boost investors confidence in US mutual funds by setting clear standards for investment companies a framework governing the mutual-funds industry to this day. 40 Act Funds, while employing very similar strategies as hedge funds, manage to do so with all the advantages of tradi tional mutual investment funds. Against this background, wellknown consultancies and service providers in the financial industry such as McKinsey 4 and SEI 5 have forecast a rapid increase in the size of assets under management and the available number of mutual investment funds up to At Vontobel, we have developed three types of liquid alternative strategies, which we call Pure Strategies. Chart 1: Liquid Alternatives as a replacement for hedge funds Verifiable prices Examples Highly liquid, exchange-traded assets, daily pricing Managed Futures/CTAs Global Macro Long/Short Equity Equity Market Neutral Non-traditional Bond Event Driven: Merger Arbitrage Relative Value Liquid Alternatives can be viewed as a substitute for hedge funds Non exchange-traded assets, monthly pricing Event Driven: Distressed Securities Private Equity Real Estate 2 Markowitz, Harry M. (1952): Portfolio Selection, The Journal of Finance, Vol. 7, No. 1, pp Rouwenhorst, K. Geert (2014): The origins of mutual funds, Yale ICF Working Paper No McKinsey & Company, Financial Services Practice (2014): The Trillion-Dollar Convergence: Capturing the Next Wave of Growth in Alternative Investments. 5 SEI (2013): The Retail Phenomenon: What enterprising private fund managers need to know. 4 Liquid Alternatives

5 Pure Strategies Finally putting it all together The making of the Pure Strategies In 1997, William Fung and David Hsieh put forward the idea that risk and return characteristics can be structured dependent on trading strategies rather than on the selection of asset classes 6. In developing our Pure Strategies we have performed extensive research on over 20 different strategy-specific risk premia. Through this empirical research we have identified three strategies that yield the most attractive and robust returns in benign market regimes as well as during periods of stress. These are momentum, value and volatility. As chart 2 shows, these three strategies fulfil our two main criteria diversification Chart 2: All strategies meet our two main criteria High Diversification Low Low Merger Arbitrage Illiquidity FX Carry Convertible Arbitrage * Tail risk-hedged volatility strategy Momentum Value Robustness in Periods of Stress Volatility* High and robustness particularly well. Other prominent and widely employed approaches such as merger and convertible arbitrage or foreign-exchange carry fail to do so on one or several counts. The term pure strategies means that each individual strategy aims to capture the essence of the specific in - vestment concept while simultaneously hedging against systematic market or so-called beta risk. Moreover, each strategy invests in a variety of different markets and underlying instruments globally to enable us to move in a well-diversified investment universe while keeping the corre lation with generally employed hedge-fund strategies low. Investors thus gain access to attractive and u n ique risk-return profiles with downside protection. In the Hedge Fund Research (HFR) universe, Pure Momentum is classified as Macro: Systematic Diversified, Pure Dividend as Equity Hedge: Fundamental Value, and Pure Premium as Relative Value: Volatility. The following overview (see charts on page 7) provides a detailed description of each of the three strategies and their payoff profiles. In these charts, the horizontal axis denotes the price development of the underlying market, while the vertical axis shows the respective gain (section above the horizontal axis) or loss (section below the horizontal axis) of the strategy at a given price level. 6 Fung, William/Hsieh, David A. (1997): Empirical Characteristics of Dynamic Hedging Strategies: The Case of Hedge Funds, Review of Financial Studies 10. Liquid Alternatives 5

6 Pure Strategies Creating robust portfolios with Liquid Alternatives Pure Momentum systematically exploiting both upward and downward trends This strategy is designed to benefit from two types of momentum in the global financial markets. Time series momentum reflects risk premia arising from a systematic participation in strong medium-term uptrends as well as in downtrends (usually between 20 days and 12 months). It involves investing globally in about 40 of the most liquid financial instruments such as widely-traded equity, fixed-income, and currency futures. This first sub-strategy of Pure Momentum will tend to perform best in markets with strong price trends, either positive or negative. In sideways markets with frequent, short-lived trends, the so-called whipsaw effect sets in, resulting in a number of break-even trades or minor losses. This can be offset by the second sub-strategy called cross-sectional momentum, which is used to systematically identify stocks that show persistent relative fundamental strength compared with their domestic markets. Under this sub-strategy, we take long positions in a basket of stocks leveraging our in-house emerging-markets expertise. Any outperformance relative to the respective index will be locked in by hedging against general market and currency risk through short index and currency futures or forward contracts. In sum, our Pure Momentum strategy is unique in the investment landscape in that it combines two nearly uncorrelated sub-strategies. It can deliver additional diversification benefits with signi ficant upside potential in positive and negative-return environments, providing protection to investors with a long bias. The corresponding payoff diagram in chart 3 is referred to as a long straddle profile. Pure Dividend quality dividend stocks with dynamic beta hedge This strategy is designed to profit from regularly earned dividends and focuses on high-quality stocks of companies with a strong dividend history, stable earnings, cash flows, and solid balance sheets. It systematically selects stocks in the global equity markets with a focus on maximising dividend income. In the current low-yield environment, dividend income can pass for a higheryielding substitute for regularly earned interest payments from a typical fixed- income fund, replacing duration and credit risk by tightly controlled equity market risk. The long equity holdings are then balanced by a short position in corresponding equity indices in order to extract this high- quality dividend premium. This is achieved through short futures positions and a proprietary downtrend model, thereby lowering the portfolio s exposure to general market risk. However, this short index exposure will be flexed to allow some market beta in positive equity-return environments. The payoff diagram in chart 4 shows the well-known profile of a long call. Pure Premium collecting risk premia through dynamic investment strategies This strategy is designed to extract risk premia through mainly two option-like sub-strategies: traditional option and dynamic premium. Academic studies show that asset managers can build such strategies not only by directly investing in the options markets but also through traditional asset classes and their derivatives. The combination of these strategies enhances fund diversification. The strategies will invest in global markets (North America, EU, Asia) and across asset classes, for example equities, bonds, credit, foreignexchange and derivatives markets. According to their market views, our fund managers allocate the overall risk budget between the two sub-strategies. The allocation to either strategy may temporarily be zero. Traditional option deploys call and put options. The sale of at-the-money options results in a so-called short straddle payoff, that is a V-shaped profile turned upside down with no initial downside protection. In order to mitigate possible losses, risks are addressed through buying options far below and far above the current market price (out-of-the money). The resulting position is short volatility with limited expected maximum loss. It generates its strongest returns in sideways markets and yields lower or negative returns in strong directional market environments. The payoff diagram depicted in chart 5 on the next page shows a butterfly profile. While butterfly structures entered during market phases with high volatility can generate very attractive premia, they may not be high enough to yield the target returns in quiet markets. This can be mitigated by the second sub-strategy, dynamic premium. It aims to extract risk premia across the above markets and asset classes in strong directional market environments. The payoff for 6 Liquid Alternatives

7 Chart 3: Pure Momentum Payoff Long Straddle Profit this sub-strategy thus resembles the long straddle profile in chart 3. Pure Premium therefore combines traditional option premium generation with classic trend-following. The discretionary allocation between the two sub-strategies by our portfolio mana gers delivers an all weather solution for challenging market environments. Price falling Loss Price rising Collect risk premium Limited downside Chart 4: Pure Dividend Payoff Long Call Profit Price falling Price rising Loss Combination of all three strategies leads to significant diversification benefits The merits of each of the three strategies on a stand-alone basis are plain to see: they boast a distinct payoff profile with limited downside, making them complementary to traditional portfolios with mainly equities and bonds. One additional significant benefit, however, comes into play when all three strategies are combined to form a mixed portfolio that offers the prospect of performing reasonably well in almost any market environment. In addition, we believe the combination of all three strategies can provide the advantage of substantial diversification benefits not only in terms of markets and instruments, but also with respect to periods of both low and high market volatility. In general, one can distinguish six market en vironments: uptrends, sideways markets, and downtrends, with each regime showing either high or low levels of volatility. In a given regime, one or two strategies might lead to a flat or slightly negative performance, which could be offset or often overcompensated by the relatively strong performance of the remaining one or two strategies. Limited downside Collect risk premium Chart 5: Pure Premium Payoff Butterfly Profit Price falling Loss Limited downside Collect risk premium Price rising Looking at equity markets from a trend perspective, for example, Pure Momentum is designed to perform well in either strong uptrends or downtrends, since the underlying algorithm will alert the portfolio manager to go either long or short. Pure Dividend will perform relatively well in sideways markets and even better during uptrends, allowing the portfolio manager to achieve high dividend in come and potentially additional price gains. Pure Premium will perform slightly negatively in strong directional market environments. In sum, investors can expect to benefit considerably from strong uptrends, incur only moderate losses in stable markets, and profit reasonably from falling equity markets. Looking at equities from a volatility perspective with assumed low levels of volatility, investors can expect to incur moderate losses in Pure Momentum, achieve a flat to slightly positive performance in Pure Dividend, and profit strongly in Pure Premium. Liquid Alternatives 7

8 Pure Strategies How can you invest? Vontobel liquid alternative funds are managed by our Harcourt specialists. In the European Union, they are regulated under the UCITS IV Directive, which ensures a greater degree of safety with full transparency, high levels of liquidity, and strict leverage limits. Alternatively, institutional clients and high-net-worth individuals can also invest in an AIFMD structure. It is more flexible than a UCITS fund and the weights of the individual Pure Strategies in this structure can vary considerably over time. Vontobel Fund - Pure Momentum Strategy Target LIBOR to basis points Instruments Equities, Bonds, Futures, FX Forwards* Vontobel Fund - Pure Dividend Strategy LIBOR to basis points Equities, Bonds, Futures, FX Forwards* Vontobel Fund - Pure Premium Strategy LIBOR to basis points Equities, Bonds, Derivatives, Credits, FX Forwards* Portfolio Manager Dr Jan Viebig, CFA Dr Martin Tschunko, CFA Paul Nicholson, CFA Dr Martin Tschunko, CFA Benchmark 3 months US dollar LIBOR 3 months US dollar LIBOR 3 months US dollar LIBOR Fees 0.75 % Management Fee (institutional) 10 % Performance Fee UCITS IV (Luxembourg) HFR Strategy Classification Macro: Systematic Diversified 0.75 % Management Fee (institutional) UCITS IV (Luxembourg) Equity Hedge: Fundamental Value 0.75 % Management Fee (institutional) 10 % Performance Fee UCITS IV (Luxembourg) Relative Value: Volatility ISIN LU (USD-I) LU (USD-I) LU (USD-I) * Additional instruments possible at a later stage 8 Liquid Alternatives

9 Conclusion Cost-efficient, transparent and liquid Since 2008, central banks unprecedented liquidity injections have restored trust in the financial system, yet they have simultaneously led to additional challenges for investors and savers. This boost to liquidity has enabled markets to shrug off fundamental economic data, thus leading to significant returns from traditional risk premia. Although these benign conditions may continue for some time, valuations are likely to come under pressure at some stage, and prudent in vestors with a long-term focus should start preparing themselves for this scenario. A diversified investment approach across different asset classes, combi ning robust price- agnostic momentum strategies and fully hedged dividend and option premium-generating strategies, provides a cost-efficient, transparent, and flexible solution to mitigate this risk not only for sophisticated investors, but also for the investing public. Liquid Alternatives 9

10 Management Our Pure Strategies team Portfolio Management Dr Jan Viebig, CFA Head of Alternative Investments Lead PM of VF Pure Momentum Strategy Head of Emerging-Markets Equities, Credit Suisse PM Long/Short-Equity and Absolute Return, DWS Dr Martin Tschunko, CFA Head of Liquid Alternative Strategies Lead PM of VF - Pure Dividend and Co-PM of VF - Pure Premium Strategy Quantitative Trader, focus on volatility strategies, Man Group PM Global Long/Short-Equity, Deutsche Bank Paul Nicholson, CFA Lead PM of VF - Absolute Return Bond and Co-PM of VF - Pure Premium Strategy PM Multi Asset Class, SAIL Advisors Ltd. PM Fixed Income, HSBC and Nomura Risk Management Dr Philipp Kallerhoff PM Absolute Return Bond/ Liquid Alternatives PM Equity and Fixed Income, Centrade Capital Management Quantitative Analyst Multi Asset Class, Landesbank Berlin Dr Matthias Kurmann Analyst Quantitative Analyst Private Equity, Capital Dynamics Quantitative Analyst, Olympus Capital Management Thomas Carrier Risk Management Due Diligence Officer Europe, Olympia Capital Management Credit Analyst, JP Morgan Our team has 60 years of investment experience and has won four European Hedge Fund Review Performance Awards. 10 Liquid Alternatives

11 Important legal notice This document is for information purposes only and nothing contained in this document should constitute a solicitation, or offer, or recommendation, to buy or sell any investment instruments, to effect any transactions, or to conclude any legal act of any kind whatsoever. Prospective investors must rely on their own examination of the legal, taxation, financial and other consequences of an investment in the funds, including the merits of investing and the risks involved. Prospective investors should not treat the contents of this document as advice relating to legal, taxation or investment matters. Before entering into an agreement in respect of an investment referred to in this document, you should consult your own professional and/or investment advisers as to its suitability for you. The value of investments and the income from them may go down as well as up and investors may not get back the amount originally invested. Past performance is not a guide to current or future performance. Performance data does not take account of commission or costs charged when units are issued or redeemed. An investment in a sub-fund of the Vontobel Fund carries various risks which are explained in the sales prospectus. In particular, we wish to draw your attention to the following risks: Investments in the securities of emerging-market countries may exhibit considerable price volatility and in addition to the unpredictable social, political and economic environment may also be subject to general operating and regulatory conditions that differ from the standards commonly found in industrialised countries. The currencies of emerging-market countries may exhibit wider fluctuations. Investments in riskier, higher-yielding bonds are generally considered to be more speculative in nature. These bonds carry a higher credit risk and their prices are more volatile than bonds with superior credit ratings. There is also a greater risk of losing the original investment and the associated income payments. Commodity investments can be very volatile and are prone to sudden swings over the long run. Governments may at times intervene directly in certain commodity markets. These interventions can cause significant swings in the prices of different commodities. Investments in derivatives are often exposed to the risks associated with the underlying markets or financial instruments, as well as issuer risks. Derivatives tend to carry more risk than direct investments. Although Vontobel Asset Management AG ( Vontobel ) believes that the information provided in this document is based on reliable sources, it cannot assume responsibility for the quality, correctness, timeliness or completeness of the information contained in this document. Vontobel explicitly reserves the right to change, amend or delete parts of this document or the document as a whole without further notice. All herein publicized information, particularly share prices, calculation data or forecasts are based on the best knowledge and/or the market estimation as at the date indicated in the presentation. This document may not be reproduced, redistributed or republished for any purpose without the written permission of Vontobel. The fund and its subfunds are included in the register of Netherland s Authority for the Financial Markets as mentioned in article 1:107 of the Financial Markets Supervision Act ( Wet op het financiële toezicht ). In Spain, funds authorised for distribution are recorded in the register of foreign collective investment companies maintained by the Spanish CNMV (under number 280). The funds authorised for distribution in the United Kingdom can be viewed in the FCA register under the Scheme Reference Number Please refer for more information on the Vontobel Fund, a regulated collective investment scheme under Luxemburg law, to the latest prospectus, annual and semi-annual reports as well as the key investor information documents ( KIID ). Interested parties may obtain these documents free of charge from the representative in Switzerland: Vontobel Fonds Services AG, Gotthardstrasse 43, 8022 Zurich, the paying agent in Switzerland: Bank Vontobel AG, Gotthardstrasse 43, 8022 Zurich, the paying agent in Austria: Erste Bank der oesterreichischen Sparkassen AG, Graben 21, A-1010 Vienna, the paying agent in Germany: B. Metzler seel. Sohn & Co. KGaA, Grosse Gallusstrasse 18, Frankfurt am Main, from the authorised distribution agencies, and from the offices of the fund at Boulevard de la Foire, L-1528 Luxembourg. They may also download these documents from our website at vontobel.com/am. Further information for UK This communication is directed only at recipients who are eligible counterparties or professional clients, as defined in the Glossary to the Financial Conduct Authority s Handbook of Rules and Guidance. Any investment or service to which this communication relates is only available to and will only be engaged in with such persons. Any other persons who receive this communication should not rely on or act upon this communication. This information was approved by Vontobel Asset Management S.A., London Branch, which has its registered office at 3 rd Floor, 22 Sackville Street, London W1S 3DN and is authorised by the Commission de Surveillance du Secteur Financier (CSSF) and subject to limited regulation by the Financial Conduct Authority (FCA). Details about the extent of regulation by the FCA are available from Vontobel Asset Management S.A., London Branch, on request. Further information for Singapore and Hong Kong The fund and its subfunds are not available to retail investors in Singapore or Hong Kong. Selected sub-funds of the fund are currently recognized as restricted schemes by the Monetary Authority of Singapore. These sub-funds may only be offered to certain prescribed persons on certain conditions as provided in the Securities and Futures Act, Chapter 289 of Singapore. The fund is not authorised by the Securities and Futures Commission of Hong Kong. It may only be offered to those investors qualifying as professional investors under the Securities and Futures Ordinance. The contents of this document have not been reviewed by any regulatory authority in Hong Kong. You are advised to exercise caution and if you are in any doubt about any of the contents of this document, you should obtain independent professional advice. This information was approved by Vontobel Asset Management Asia Pacific Ltd., which has its registered office at 3601 Two International Finance Center / 8 Finance Street, Central, Hong Kong. Liquid Alternatives 11

12 Harcourt Vontobel Asset Management AG Gotthardstrasse 43 CH-8022 Zurich Telephone Telefax harcourt.ch