Impact of Recent Romantic Alliances and Current Economic Conditions on Cross-Asset Class Results
In a recent study, the performance of multi-asset funds was analysed in relation to the S&P 500 across three time periods: 2000-2007, 2008-2018, and the entire lifetime of the data (2000-2018). The analysis was carried out using the HFRI Diversified Fund of Funds Index as a proxy for multi-asset class performance.
During the 2000-2007 period, multi-asset managers produced an average of +6.63% annual alpha with a low correlation (43%) and a low beta coefficient (0.145) to the market. However, in the 2008-2018 period, the annual +6.63% alpha generation of multi-asset funds has essentially completely evaporated down to an annual +0.10% of alpha.
Interestingly, every year, bar one, the multi-asset fund proxy had the same directional return as the S&P500 during the 2008-2018 period. In contrast, in the 2000-2007 period, multi-asset funds outperformed the market with lower volatility.
The S&P 500 historically delivered strong returns, with around a 10% annual return being a common benchmark over the long term. This implies that over long periods like 2000-2018, the S&P 500 generally outperformed many other asset classes.
Multi-asset class funds, which include combinations of equities, bonds, commodities, and other asset types, often aim for diversification benefits rather than maxing returns. Their performance tends to vary with the macroeconomic environment, including prevailing interest rates, inflation, and economic growth.
The period 2000-2007 was characterized by the "dot-com bust" recovery and generally rising markets, favoring certain asset classes over others. The 2008-2018 period included the Global Financial Crisis and the subsequent recovery, with different asset behaviors. Multi-asset funds might have had relative outperformance in downturns due to diversification, whereas the pure equity S&P 500 could outperform during bull markets.
In today's macroeconomic climate, traditional asset classes have become increasingly correlated with each other. To lower the potential harm from an equity correction, family offices and institutional investors should increase investments into more uncorrelated products. Hedge funds, which are a subset within the alternatives asset class due to their lack of market exposure to traditional asset classes, play a crucial role within an investor's portfolio due to their unique liquidity, tradeable markets characteristics, and ability to trade within non-traditional markets.
Investors should expand into more non-traditional markets to find truly uncorrelated returns. Potential explanations for the increase in beta coefficient and correlation include the zero lower-bound monetary policy environment affecting fixed-income derived returns, higher volatility of the funds due to changes in correlation in fixed-income and equity markets, and manager/investor pressure to create higher returns.
Fixed-Income, due to zero lower-bound monetary policy, is extremely low yielding and no longer provides equity correction protection. REITs had around a 70% correlation with traditional markets during the 2000-2002 recession and 80% correlation during the 2007-2009 recession.
The analysis used monthly returns from January 2000 to December 2018. In the 2008-2018 period, multi-asset funds underperformed the market while nearly doubling their correlation (72%) and increasing their beta coefficient (0.23) to the market.
In today's macroeconomic climate, equities are in their longest ever bull-run and are widely considered as the 'most hated bull run' due to their artificial nature. To avoid potential harm from an equity correction, it is advisable for investors to consider diversifying their portfolios and increasing investments into more uncorrelated products.
[1] Instagram post reference: https://www.instagram.com/p/B8K22DnB_Qd/ [3] Instagram post reference: https://www.instagram.com/p/B8K22DnB_Qd/ [5] Macroeconomic conditions reference: https://www.wsj.com/articles/fixed-income-yields-are-low-and-getting-lower-1539653353
- Institutional investors might find it beneficial to include more uncorrelated products, such as hedge funds, in their portfolios, as traditional asset classes have become increasingly correlated with each other, potentially leading to higher risks during an equity correction.
- When considering investment options, business owners and family offices might choose multi-asset class funds, as these funds aim for diversification benefits rather than maximizing returns, and their performance tends to vary with the macroeconomic environment.
