Efficient Portfolio Allocation in a Time of Slowing Growth

Following a decade of sustained global growth and further rate hikes on the horizon, forward looking yields across both equities and fixed income now appear challenging. Investors are increasingly seeking alternatives that can allow them to diversify their portfolio away from traditional equities or duration risk.

18 May 2022

Click here to view the GAM Systematic white paper in full.

GAM Systematic’s Chris Longworth, Vladimir Kobelev and Guglielmo Mazzola discuss some of the topical liquid alternatives that are available to investors, and how each can play a role as constituents of a balanced portfolio.

Traditionally investors have been advised to hold a balanced portfolio that is well diversified across cash, equities and fixed income. Over the past decade such portfolios have performed well, boosted by a period of strong global growth and a supportive regime of low rates across key developed markets. However, the forward looking picture now seems more challenging, and compared to history both bonds and equities appear fully priced.

What can investors do?

Against this backdrop, many of our investors are looking for ways to diversify their portfolio risk by adding liquid alternative strategies. However, liquid alternatives are not a homogenous group and can have very different characteristics and pay-off expectations.

A framework that we often use during discussions with investors, and which we expand on in our recent paper, is to characterise different alternatives according to two key features:

1. Diversification – Does the investment capture, or offer an exposure to, a source of return other than global growth?
2. Convexity – Can this investment deliver positive returns in sharp market dislocations or during a sustained bear market?

The second of these is particularly valuable, in our view, as it implies that an investment can offer a positive return at the same time as other constituents of an investment portfolio are suffering.

The below chart shows several topical liquid alternatives plotted according to these characteristics. This representation can be helpful to understand how they relate to each other and the expectations investors should have for each.

Diversification versus convexity for several topical diversifiers

In our paper, we examine each of these liquid alternatives in turn, with a particular focus on alternative risk premia and systematic macro, and what they can offer to investors in relation to this framework of diversification and convexity.

Although no single diversifier is a panacea, all of the diversifiers we discuss can, in our view, play a helpful role in building a robust portfolio, especially today when growth may be challenged, and the discount rate is at risk of rising.