The new portfolio balance to replace the dying 60-40 strategy will include hedge funds and commodities, according to two Franklin Templeton Investments executives.
Due to volatility in equities, low interest rates for bonds, and economic pressures, hedge funds are looking at a good year for 2022 , the co-chief investment officers at K2 Advisors, which is a division of Franklin Templeton Investments, said in an interview. K2 Advisors is a global multi-billion dollar investment manager that focuses on hedge funds and liquid alternatives investing.
“Investors are looking beyond equities and bonds, and one of the directions they are looking is to hedge funds” to achieve good returns, Brooks Ritchey, co-CIO and portfolio manager at K2 Advisors, said. “We are entering a transition time. Investors are looking to hedge funds to reduce volatility and increase flexibility in their overall portfolios.”
“Real interest rates are very low and equities are high price-to-earnings, which will create volatility. The last couple of weeks may have been a precursor to that with both bonds and equities going down at the same time, which is not normal,” added Robert Christian, co-CIO and senior managing director at K2. “The returns of the last couple of years aren’t going to be there this year, so investors are using hedge funds and commodities to ‘de-risk’ their portfolios.”
Traditionally, investors divided their money into three categories: equities, bonds, and cash, Ritchey said. “Now, they are looking at five. Bonds are going to continue to have performance challenges; cash always has challenges; equities will do okay but they will have a problem with volatility.” Instead of 60% equities and 40% bonds, investors may want to look something closer to 50% equities, 20% bonds, 15% hedge funds, and 15% real estate, he said. “Hedge funds and commodities are going to present good opportunities in the next year.”
Last summer, K2 Advisors began getting calls from advisors, institutional leaders and fund managers asking for training sessions in hedge fund management, the two said. One thing they told the fund managers and chief investment officers is to look outside U.S. equities for returns.
Central banks, including the U.S. Federal Reserve Bank, are expected to continue to reduce their bonds purchases, “while simultaneously stepping on the liquidity brake. Therefore, markets are expected to be hyper-focused on how fast and effective that ‘tapping on the brakes’ turns out to be, creating a higher volatility regime.” K2 Advisors said.
At the same time, global decarbonization will have a growing share of investors’ and money managers’ attention and “the opportunity to invest in market leaders and new technologies is very compelling: governments are working on policies, consumers are voting with their wallets and investors are demanding better standards,” K2 Advisors said.
For this next year, investors will take funds from different categories within their portfolios to dip into hedge funds and commodities, depending on their time frames, Christian said. K2 Advisors is moving away from short-term strategies. The firm’s top choice for investments is value equities and global macro investments, he said.
“We are telling our clients they should be conservative and prepare for volatility,” Christian added. “We also think active management will make a comeback, and hedge funds are the place active management pays off the most.”