Tuesday, February 2, 2016

Endowments under pressure - are alternatives the solution?

Most surveys suggest that endowments and pensions have been increasing their alternative exposure. The reason may be clear when you look at 2015 performance. There is a huge gap between a target return of 7.5% and the actual returns from endowments. Of course, the ten -year average is closer to the target, but 2015 was not a good year and this was before the sell-off in August. 

Low rates coupled with Fed normalization mean that the fixed income portion of a portfolio is unlikely to have total returns close to the 7.5% level. The first month of the year has not sent a strong signal on equity performance. Credit markets have been in upheaval and commodities have continued to slide lower.

So where is the 7.5% going to come from? The only alternative is to gain returns through high alpha generation. This is not really realistic but it seems to be the place where investors are willing to place their bets. It is a semi-defensive strategy of protecting against a sharp decline through diversification under the hopes that returns can stay at least close to the target. It makes sense in a world filled with uncertainty and the expectation that traditional assets will under-perform.

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