Implied volatility is low, but realized volatility is even lower. Many equity investors are concerned about valuations, but strong earnings growth has led to double-digit returns year-to-date.1 In fixed income, the Federal Reserve (Fed) has continued along its path of tightening, but rates are lower year-to-date at tenors greater than five years. Overall, a seemingly naive 60% equity/40% fixed income portfolio2 has delivered enviable performance. During these periods, it’s imperative that investors resist the temptation to be lulled into complacency. Over the last several years, we’ve seen an increased interest in strategies that can serve as alternatives to a standard equity and bond portfolio. While these strategies can be used in isolation, we’ve found that creating a portfolio of alternative assets can provide a wider range of risk and return profiles. Below, we highlight how investors can combine a dynamic long/short equity strategy3 with a dynamic bearish strategy4 to achieve returns comparable to traditional portfolios but with significantly different drivers and correlations.
Dynamic Long/Short and Bearish
At their core, dynamic strategies seek to add value through security selection and by their ability to dynamically add and subtract exposure to equity market beta. When underlying fundamentals are strong, our dynamic long/short Index is long. When fundamentals become mixed, a partial hedge is applied. When fundamentals are weak, a full market hedge seeks to protect investors from downdrafts in the equity market while still delivering excess returns through security selection. For our bearish strategy, when fundamentals are poor, all equity exposure is eliminated while those proceeds are invested in U.S. Treasury Bills. This high-quality cash position combined with a short position in equity futures allows investors to potentially profit from a decrease in equity prices.
