Liquid Alts Face Headwinds in Strong Stock Market: Study

Comparing alternative mutual funds to a traditional 60/40 portfolio, and focusing on 3- and 5- year periods ending December 2017, the results "were disappointing across both time periods," the researchers found. "Over the trailing five years … not a single long-short equity fund would have improved our portfolio's efficiency by at least 10%. Market-neutral funds fared better given their very low correlations to traditional equity and fixed income returns, as did managed futures funds."

The researchers also found that hedge fund returns "have gotten increasingly correlated with the broader market's returns over time," which indicates they've been driven largely by stock and bond returns.

This increasing correlation with stocks and bonds, as well as the "standout" stock and bond market returns, have hurt the liquid alternatives market, the researchers concluded. The hot stock market may "prove temporary," but the rising correlation to stocks and bonds issue "probably reflect structural changes, raising questions about whether nontraditional strategies con confer the same diversification benefits in the future as they did in the past." Bottom line: Check how diversified the alternative is to the traditional portfolio.

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