The importance of portfolio diversification and alternative strategies

Funds Management

by Jessica Amir

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Sinead Rafferty, Portfolio Specialist, NAB Asset Management chats to Gareth Abley, Head of Alternative Investments, MLC about alternative strategies, why include them in a portfolio and the importance of diversification within the asset class.

Sinead Rafferty:
Hi. I’m Sinead Rafferty, Portfolio Specialist at NAB (ASX:NAB) Asset Management. And today I’m joined by Gareth Abley, Head of Alternative Investments at MLC (ASX:MLC). Welcome Gareth.

Gareth Abley: Hi Sinead.

Sinead Rafferty: What role do alternative assets play in the MLC (ASX:MLC) portfolios?

Gareth Abley: Alternative strategies, essentially they are to do two things for our investors. Firstly, they’re there to provide very attractive risk adjusted returns, in their own right. Secondly and equally as importantly, they’re there to provide excellent diversification. So when other assets in our portfolios like equities and bonds are potentially struggling, our portfolios are looking to be completely independent of those drivers. And hopefully deliver positive returns, even when equity markets in particular are not.

Short-term diversification matters, long-term diversification matters as well. So what we mean by that is if we get a very long period when equities don’t deliver, as Japan has experienced over the last 30 years, then it’s really important for investors to have something in their portfolio that can deliver attractive, positive returns. And that’s particularly acute today because bond yields, which are the traditional diversifier, are very very low and unlikely to provide attractive returns. And questionable whether they’ll provide the diversification benefits.

Sinead Rafferty: Also you’ve held alternative investment in our portfolios for quite sometime now. Can you tell us little bit about the evolution of those strategies, over time?

Gareth Abley: We first invested back in 2007 into pretty interesting strategies. One of which was Bridgewater Pure Alpha, a global macro hedge fund and the other was Natural Catastrophe Reinsurance. Since then, we’ve evolved the portfolio to have around about a dozen different strategies in there. Ranging from systematic market neutral strategies, to more eclectic litigation based strategies. So the goal is to have individual strategies that are all uncorrelated to equities, and they’re all also uncorrelated to each other. And through that, you can provide a very steady and attractive return stream through time.

Sinead Rafferty: You mentioned Bridgewater being one of those strategies. Can you tell us a little bit more about them and what they do, and how they do it?

Gareth Abley: Bridgewater are a manager we know pretty well. So we’ve invested with them since the early 1990s in various mandates, and we invested in their global macro hedge fund back in 2007. What a global macro hedge fund does is it has the ability to go both long or short, any asset class. So if they think equities are going up, they can go long equities. If they think they’re going down, they’ll go short equities and profit from the downward move in equities. They can do that across fixed income, they can do that across currencies; they can do that across commodities.

So they have a big pallet of opportunities with which to express their views on what’s happening in markets, in lots of different ways to make money there diversified, diversified way. So that’s what they do in a generic sense, as a global macro manager. What we think makes Bridgewater quite unique is their culture. So they have a very, what we would call unique and sharp culture, that’s based around what they describe as, radical truth and radical transparency. Which in some ways boils down to providing extremely firm and rapid feedback to each other, on what mistakes they’re making, what they need to do better.

And the goal of all that is to evolve as quickly as possible, and that recognises that markets are incredibly efficient. They get more efficient each year. And unless you apply significant resources and significant IP to that challenge, you will lag behind. And I think Bridgewater’s culture forces them to continually evolve quicker, than the opposition.

Sinead Rafferty: How has a low correlation strategy performed, particularly in the last quarter of 2018 when equity markets didn’t?

Gareth Abley: Yes so it had a pretty good quarter. So I think with equity markets down, in some cases up to 10 per cent in Q4, the low correlation strategy was up two per cent net of all fees. Obviously that’s pleasing for us and more importantly our clients, to deliver when markets are struggling around the world. What was also pleasing for us was that I think, nine of the 13 strategies in the portfolio were positive in the quarter. So it wasn’t driven by one manager getting lucky or hitting the ball out of the park, it was pretty broad based.

Sinead Rafferty: Thanks for your time Gareth.

Gareth Abley: Yes.

Sinead Rafferty: Thank you for joining us.