An Uncertain Future Continues To Highlight Various Alternative Strategies That Outperformed Public Markets In 2022, And May Usher In A Golden Age For Alts
As investors worry about the possibility of a 2023 recession, they’re receiving mixed signals from news and media outlets. Consumer confidence, spending, employment and the housing market remain relatively stable despite inflation and rising interest rates. Even business confidence stayed positive for most of 2022 in a year defined by record-high consumer prices, supply chain shocks and political conflict in Europe.
Many economists predict a slowdown as the Fed continues to tighten monetary policy – and recession pessimism could become a self-fulfilling prophecy. As China retires its zero-COVID policy, cases continue to spike, reigniting supply-chain concerns.
Is Global Uncertainty The New Normal?
One reason the economy doesn’t make sense to investors is a lack of coherence – no unifying theme to explain what might happen next.
The types of managers and strategies positioned to thrive in the past have generally been those prepared to capitalize on global uncertainty: global macro, equity market neutral and multi-strategy on the hedge fund side, and private credit, LBO and venture funds on the private markets side.
Private Markets Grew In 2022
In 2022, U.S. dollar-denominated risk assets experienced a year-over-year selloff in public asset markets. The S&P 500, Dow Jones Industrial Average, U.S. Treasurys, Bloomberg Aggregate Bond Index (AGG) and cryptocurrencies experienced double digit drops. Energy, agricultural and industrial commodities prices also fell.
However, many alts strategies, such as private credit and various hedge fund strategies, performed well in 2022 and may continue outperforming this year, which could usher in a golden age of alternatives since the 60/40 portfolio won’t be as reliable as it was pre-pandemic and investors continue to look for alpha.
Last year, private credit witnessed enormous growth. When rates rose and risk appetite dropped, the primary market for syndicated and leveraged loans nearly evaporated. The primary source of funding transitioned from banks to direct lenders, a subset of private credit. If credit spreads and rates remain high this year, we expect outperformance in private credit, since most private debt has floating rates.
Similarly, nearly every Hedge Fund Research Index (HFRI) outperformed the S&P and AGG in 2022. We saw strong returns in strategies that traditionally capitalize on high volatility and market uncertainty, with the HFRI Total Macro Index returning 9% over the last year, and the HFRI Equity Market Neutral Index returning over 1%.
Investing in private funds carries high risk. Nevertheless, hedge funds are gaining a reputation among investors seeking to diversify their portfolios, reduce volatility and generate income.
On The Cusp Of A Golden Age
Advisors are taking notice, adding to the possibility we are on the cusp of a new paradigm or a golden age of alternatives. According to a white paper from Cerulli Associates issued in July 2022, advisors reported reducing exposure to public markets as a top reason for using alternative investment products.
Understanding the potential new golden age of alternatives means recognizing alternative investments’ increased relevance among an expanding universe of investment solutions available for advisors, who are shedding the old way of doing things in a brave new world.
In a time of uncertainty, alternatives can help manage portfolio volatility – preparing investors for the long term while zeroing in on goals that go beyond cookie-cutter solutions. Relatively illiquid alternatives, while having their own unique risks and complexities, can help advisors guide investors to long-run goals as they aim to insulate their clients from what could be a very different environment over the next decade.
Steven Brod is CEO and CIO of Crystal Capital Partners.