On the investor side, a significant and growing amount of capital is being allocated to the space to fill a number of different roles in a portfolio. Some investors view Alternative Risk Premia as a way to get exposure to factors they previously would have accessed through a traditional hedge fund portfolio. In this way, the concept of Alternative Risk Premia is disrupting the traditional hedge fund industry: investors who might be disillusioned with the high fee levels and relatively disappointing returns from their portfolios of 'first generation' hedge funds are seeking to capture the key factors they want from that portfolio in a more transparent and lower-cost fashion.
Other investors are using it as a way to enter the alternatives space for the first time and to access diversifying sources of returns for their portfolios, which they previously would not have captured because of reluctance to use traditional 'first generation' hedge funds. In this way, the Alternative Risk Premia concept is helping the hedge fund industry grow by making it more accessible to a wider range of investors.
Similarly, on the manager side, a large number of new products are being launched by a wide spectrum of different managers. These managers include traditional large asset managers with backgrounds in long only investing, specialist quantitative hedge fund managers, funds of hedge funds bringing their portfolio construction skills to create funds of individual risk premia and even new startups or new specialist teams operating within larger organisations. The result of this is a further blurring of the distinction between the hedge fund and traditional asset management spaces.
Against this backdrop of capital flowing into the space and many different new products being launched, it is not surprising that there is no single, universally accepted definition of the Alternative Risk Premia space - despite very few if any of the underlying strategies actually being new ideas. So what are the different factors to be considered when looking at the space and designing a product? Where should the guidelines and boundaries be set when managers decide what is and isn't suitable for an Alternative Risk Premia product, and how should investors categorise and evaluate the disparate range of offerings? In the remainder of this article we list some of the key considerations and questions which arise, and outline Aspect's philosophy for approaching each of them.
Diversification: what do we mean by alternative, and how should exposures to traditional asset classes be managed?
Firstly and perhaps least controversially, any Alternative Risk Premia product needs to provide returns that are diversifying or alternative to traditional asset class risk premia if it is to be valuable to an investor as a 'hedge fund replacement'. This normally means that any structural long bias or beta to equities or fixed income is removed. However, in Aspect's view this does not mean the portfolio must be strictly market neutral at all times: several well-known risk premia can only be exploited using directional exposure at times. For example, the trend or momentum premia can generate very diversifying returns by taking directional but dynamic exposures in traditional assets. Insisting on strict portfolio neutrality might mean missing out on some valuable and diversifying sources of return which can only be captured using directional exposures.