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ALTERNATIVE INVESTMENTS
Although many still think of alternative investments as exotic investments
reserved for ultra-high-net-worth individuals and sophisticated institutions,
the reality is that alternatives are becoming more mainstream. Due to a
number of innovations, alternative investments today come in a variety of
packages, span a range of strategies and are available to nearly all investors.
However, despite the attractive aspects of alternatives, they are often not well
understood and some investors hesitate to include them in their portfolios. In
the following pages, we address some of the common myths associated with
alternative investing and discuss how alternatives can be an integral part of
nearly every investors portfolio.
Alternatives represent
different approaches to
investing across a variety of
markets and asset classes.
It is the unique mix of
underlying risk factors that
determine how individual
investments are expected
to perform relative to
traditional asset classes.
CONTENTS
CONTAINERS
ALTERNATIVE ASSETS
ALTERNATIVE ASSETS
Currency
Commodities
Real Estate
Infrastructure
Real Assets
ALTERNATIVE STRATEGIES
Long/Short
(e.g., equity/credit)
Multi Strategy
(e.g., multi asset class)
Fortunately, a variety of
alternatives are increasingly
becoming an option for
more and more investors,
particularly with the advent
of comprehensive strategies
that combine numerous
investments in a single
portfolio and because of
the increased availability
of retail hedge funds
focused on alternative
investing.
[2]
HEDGE FUNDS
Invest and trade in a variety
of securities and markets using
leverage and/or short-selling
Differing liquidity profiles and
other characteristics depending
on the vehicle.
These categorisations can help investors diversify their portfolios not only by
investment type, but by investment vehicle. Through the various contents,
investors can diversify the forms of risk in their portfolios and gain exposure to
different areas of the market. Meanwhile, the different containers can be a
useful way to think about investing for different needs (e.g., liquidity needs,
transparency needs, ease of access, etc.).
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Some alternative investments can experience higher levels of volatility than traditional
stocks and bonds (e.g. commodities), but as a group, they are no more volatile than
any other investment. In fact, many alternatives exhibit far less volatility than
stock markets, based on the markets they trade in and/or their management styles.
Adding alternatives to a
POTENTIAL
POTENTIAL FOR
FOR LOWER
LOWER VOLATILITY
VOLATILITY AND
AND ENHANCED
ENHANCED RETURNS
RETURNS
Returns
Returns and
and volatility
volatility of
of major
major asset
asset classes
classes (20002014)
(19982012)
RETURNS
15%
10
VOLATILITY
15%
10
0
Commodities
Global
Equities
AU
Bonds
AU
Equities
HF
Managed
Futures
HF
Equity
Long/
Short
HF
Composite
HF
Multi
Strategy
HF
Global
Macro
AU
Bonds
HF
Multi
Strategy
HF
Global
Macro
HF
Composite
HF
Equity
Long/
Short
HF
Managed
Futures
Global
Equities
AU
Equities
Commodities
Source: Datastream. Investing involves risk. Past performance does not guarantee or indicate future results. For information on indices used, please see the Important Notes. It is not
possible to invest directly in an index. The performance information above is based on annualised monthly returns from 2000 to 2014. Use of other beginning or ending points, or of
a longer or shorter period, would result in different relative performance among the asset classes. Indices of managed products and hedge funds in particular, have material inherent
limitations and should not be used as a basis for investment decisions.
6
3
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0
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When appropriately
incorporated into a broader
investment plan, the
tradeoff of lower liquidity
against additional
diversification and potential
return can be well worth it
for the long-term investor.
Many alternatives are less liquid than traditional investments, but the level of
liquidity is very specific to the investment itself. As with all aspects of investing,
there is a tradeoff between risk and expected return and liquidity is no different.
When investing in less liquid assets investors should expect to be compensated
for that illiquidity (defined as an illiquidity premium) through improved riskadjusted returns.
Outside Australia, one of the common structures used for many altermative
investments has been the limited partnership, which imposes limits on the investors
ability to withdraw capital. Those restrictions can be as short as 30 days (typical for
many hedge funds) or as long as 15 years (for some private equity partnerships).
When appropriately incorporated into a broader investment plan, the tradeoff of
lower liquidity against additional diversification and potential return can be well
worth it for the long-term investor. Investors should, of course, only allocate that
portion of their portfolio that they are comfortable investing for the long term into
such investments.
In Australia, there are also newer alternative investment vehicles (i.e. containers)
that are designed to provide more liquidity and greater regulatory oversight than can
typically be found in limited partnerships. For example, RG240 retail hedge funds are
often open for transactions daily just like their traditional counterparts and are
regulated by ASIC. However, strategies that provide increased liquidity often means
the investable universe or the types of strategies implemented are more limited.
Additionally, investors can look for alternative funds that are designed to manage
less liquid investments directly alongside strategies that have some higher degree of
liquidity. Such funds can provide more frequent liquidity to investors than many limited
partnerships (although such vehicles are often also subject to withdrawal limits).
[4]
Accessibility
Broadly accessible
to all investors
Only accessible by
Wholesale Investors
Investment
Universe
Transparency
High
Moderate to High
Minimums
Liquidity
Fees
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ASX200
Global Equities
AU Bonds
Global Bonds
Commodities
3,000
2,000
1,000
0
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
Source: Datastream. Investing involves risk. Past performance does not guarantee or indicate future results. For information on indices used, please see the Important Notes. It is not
possible to invest directly in an index. The performance information above is based on annualised monthly returns from 2000 to 2014. Use of other beginning or ending points, or of
a longer or shorter period, would result in different relative performance among the asset classes. Indices of managed products and hedge funds in particular, have material inherent
limitations and should not be used as a basis for investment decisions.
15 worst performance months of MSCI World vs DJ. CS. Hedge Fund Index
MSCI World $A Hedged
5%
0
-5
-10
-15
-20
Oct-08 Sep-08 Sep-02 Sep-01 Feb-09
Jul-02 May-10 Feb-01 Jan-08 Jun-08 Jun-02 Jan-09 May-12 Aug-11 Dec-02
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[5]
Every investor has heard the phrase past performance is no guarantee of future
results, but performance alone does not paint a complete picture of what the
investor is buying. Past performance may not be repeatable for a variety of reasons
including size, opportunity set, concentration, and one-off events that are unlikely
to be repeated. In assessing any investment, investors need to consider such factors
as the quality of the management team, their investment process, the current and
potential investment opportunity set and features that might differentiate or set
apart similar products. Many times, alternative funds that struggle to perform do
so because of structural issues within their business models. For that reason, when
considering alternatives, investors also should weigh the strength of the funds
operational abilities and the liquidity considerations discussed earlier.
We believe most investors would be well served to partner with a financial adviser in
determining how to gain access to alternatives and would benefit from professional
selection and ongoing monitoring of managers and alternative funds.
SELECTION MATTERS
Spread between average calendar year returns of top and bottom decile funds
(20042013)
25 %
20
15
10
5
0
-5
-10
-15
-20
20.8
5.1
4.7
2.3
3.2
-5.1
-4.6
Stocks
Bonds
Top decile
11.4
12.8
11.7
14.5
-13.0
-13.7
Long/Short
Credit
Relative
Value
Bottom decile
17.3
17.5
16.7
18.7
14.7
15.4
16.8
-11.8
-16.0
Long/Short
Equity
Event
Driven
-15.7
-17.5
Global
Macro
Managed
Futures
Source: Morningstar, Lipper TASS database. Past performance and correlation are no guarantee of future results.
Stocks represented by Morningstar US Large Cap Core Funds. Bonds represented by Morningstar US Core Bond
Funds. Alternative categories represented by the following TASS fund classifications: Fixed Income Arbitrage
(representing Long/Short Credit); Convertible Arbitrage (representing Relative Value); Long/Short Equity; Event Driven;
Global Macro; Managed Futures. For illustrative purposes only.
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7.5%
7.0
50% Equity
30% Fixed Income
20% Alternative Assets
35% Equity
50% Fixed Income
15% Alternative Assets
20% Equity
70% Fixed Income
10% Alternative Assets
6.5
6.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0%
Sources: BlackRock, DATASTREAM. Past performance is no guarantee of future results. Standard deviation is a measurement of risk depicting the dispersion of returns from the average return. The
higher the degree of dispersion, the higher the standard deviation. The information provided is for illustrative purposes only and is not meant to represent the performance of any particular investment.
The data assumes reinvestment of all income and does not account for taxes or transaction costs. It is not possible to invest directly in an index. Equity allocations are represented by the ASX 200
and the MSCI World Ex Australia Index. Fixed Income allocations are represented by the Bloomberg AusBond Composite, the Barclays Global Aggregate Bond Index and cash. Enhanced portfolios
include a 15% allocation to alternative assets, a 5% allocation to alternative equity strategies within the equity allocation and a 5% allocation to alternative fixed income strategies within the fixed
income allocation. To fund these additional allocations, the equity allocation of each traditional portfolio is reduced by 15% and the fixed income allocation is reduced by 10%. Alternative allocations
are represented by the Dow Jones Credit Suisse Hedge Fund Index. The 5% allocation to equity alternative strategies is represented by the Dow Jones/Credit Suisse Long Short Equity Index. The 5%
allocation to fixed income alternative strategies is represented by the Dow Jones/Credit Suisse Fixed Income Arbitrage Index.
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[9]
Index Definitions
Australian Bonds are represented by the Bloomberg AusBond Composite Index
which includes investment grade fixed interest bonds of all maturities issued in the
Australian debt market. Global Bonds are represented by the Barclays Global
Aggregate Bond index (hedged to $A) which provides a broad-based measure of the
global investment grade fixed income market.
Australian Equities are represented by the S&P/ASX 200 Index, a capital-weighted
index that includes 200 stocks representing approximately 80% of Australian equity
market capitalisation. Global Equities are represented by the MSCI World Index
(unhedged in $A) which captures large and mid cap stocks across 23 Developed
Market countries.
Commodities are represented by the Bloomberg Commodity Index (unhedged in $A),
which is composed of commodities traded on US exchanges, with the exception of
aluminum, nickel and zinc, which trade on the London metal exchange (LME). Hedge
funds are represented by the Dow Jones Credit Suisse All Hedge Strategy Indicies
which are designed to provide transparent, representative and objective
benchmarks of various style based investment strategies of the hedge fund
universe.The returns used in the analysis are hedged returns in $A.
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10 M Y T H S S U R R O U N D I N G A LT E R N AT I V E I N V E S T M E N T S
Important Notes
Utilising alternative investments involves substantial risk and presents the
opportunity for significant losses including the loss of your total investment.
Alternative investments have experienced periods of extreme volatility and in
general, are not suitable for all investors. Alternative investments incorporate
speculative strategies which may subject an investor to greater volatility than
traditional securities, and in some cases of extreme volatility, market conditions
may result in rapid and substantial valuation increases and/or decreases.
Alternative investments take on higher costs and risks in return for the
potential of higher returns.
Hedge funds and hedge funds of funds may not be suitable for all investors and
often engage in speculative investment practices which increase investment risk;
are highly illiquid; are not required to provide periodic prices or valuation; may not
be subject to the same regulatory requirements as mutual funds; and often employ
complex tax structures. Utilising private equity involves significant risks along with
the opportunity for substantial losses.
The indices used herein are for illustrative purposes only to provide an indication
of historical performance of various asset classes and are not meant to represent
the performance of any particular investment. It is not possible to invest directly in
an index. Indices are unmanaged and cannot be used to predict the future results
of any investment. An indexs returns may not reflect the deduction of any sales
charges or other fees and expenses, which could be substantial for alternative
investments and would reduce actual returns.
Indices of managed products, and hedge funds and private equity in particular,
have material inherent limitations and should not be used as a basis for investment
decisions. Performance of unmanaged indices (such as those representing
commodities and real estate) does not include consideration of investment
management and/or performance fees that would be attributable to managed
accounts. Other indices (such as those representing private equity and hedge
funds) are composed of investment funds and performance is calculated net of
attributable management and performance fees and expenses. In addition, the
basis for calculating performance differs, as between private equity, which is
calculated based on dollar-weighted periodic IRRs, and the other asset categories,
which are based on time-weighted total returns, and may not provide meaningful
comparisons. Indices that purport to present performance for the overall hedge
fund, private equity or other alternative investment industries may actually present
performance that differs materially from the overall performance of such
alternative investment industry due to issues of selection and survivorship bias.
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This document has been issued by BlackRock Investment Management (Australia) Limited ABN 13 006 165 975 AFSL 230 523 (BIMAL)
for the exclusive use of the recipient, who warrants by receipt of this document that they are a an adviser and wholesale client as
defined under the Corporations Act 2001 (Cth). This document is intended only for wholesale clients and this document must not be
relied or acted upon by retail clients.
This document provides general information only and has not been prepared having regard to your objectives, financial situation or
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situation and needs. Any potential investor should consider the latest disclosure document in deciding whether to acquire, or to
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BIMAL, its officers, employees and agents believe that the information in this document and the sources on which the information is
based (which may be sourced from third parties) are correct as at January 2015. While every care has been taken in the preparation of
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employees or agents. Except where contrary to law, BIMAL excludes all liability for this information.
This document includes information marked as illustrations that are strictly for illustrative and educational purposes only and is
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