5 Ways to Supercharge a Portfolio Against a Blah Tomorrow, per CAIA

Expect so-so investment returns over the next 10 years—likely around 3% to 4% annually for a 60/40 portfolio. That’s the CAIA Association’s dour outlook, which is way down from the sparkling results in recent times.

But these outside-the-box thinkers—the acronym stands for Chartered Alternative Investment Analyst—aren’t submitting to such an uninspiring tomorrow. They’ve assembled what they call a “Portfolio for the Future,” an asset allocation aimed at doing better than low single digits.

The group gathered a set of wise folks to come up with five qualities necessary to deliver a more robust performance than the meager forecast of 3% to 4%. “We are here to declare the rise of a new era, one where fiduciaries will need to work smarter and more creatively to deliver investor outcomes,” writes John Bowman, CAIA’s executive vice president.

This allocation is composed of these values:

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Diversification. Commonfund CEO and CIO Mark Anson argues that it’s necessary to have a more diverse allocation “across asset classes, geography, sector, and purpose” than is typical nowadays. This collection would feature uncorrelated beta and risk premiums. It would combine income generation, inflation protection, capital preservation and principal growth.

In the past, investors figured stocks could only go up, Anson declares. So they turned to low-cost products that “created complacency and beta creep,” meaning strategies picked up more market risk over time.

Private, less liquid capital. There’s a strong case for private capital focused on earlier stage, new economy and growth companies, says Andrea Auerbach, Cambridge Associates’ global head of private investments. These countercyclical plays, she says, are “detached from the short-term machinations of [the] public market” and give investors a better exposure to global markets.

Certainly, she acknowledges, these investments can be opaque and laden with high fees, and require patience. They aren’t usually very liquid, either. Investors will need risk tolerance and must examine how much income they require, which means there must be a lot of due diligence up front.

Fiduciary mindset. Roger Urwin, global head of content at the Thinking Ahead Institute, believes that honest dealings with investors is a vital cog that is sometimes missing in the financial machine. Investment professionals, he finds, still have “work to do on this journey through mitigating conflicts of interest, asymmetric payoffs, incentive dislocations between limited partners (LP) and general partners (GP), and unnecessary financial engineering.”

They need, he says, “an existential understanding of purpose, alignment, and service to the client,” which leads to “behavioral norms that influence ownership structure, client communication, compensation, fees, talent recruiting, culture, and definition of success (benchmarks).”

Sustainability and inclusiveness. Investors these days demand both positive financial and social outcomes from their assets. They look for good environmental, social and governance ratings and other non-financial disclosures, says Anne Simpson, global head of sustainability at Franklin Templeton and former managing investment director of board governance and sustainability at the California Public Employees’ Retirement Fund.

This entails weaving carbon footprint, progress on diversity, equity and inclusion (DEI), human-rights records, and labor practices “into their security evaluation, risk management, and return expectations.”

Innovation to gain alpha. “Firm culture, governance, and technology are much more predictive of sustained performance than previously thought,” insists Ashby Monk, executive director, Stanford Research Initiative on Long Term Investing.

The new portfolio “will be driven by firms that innovate and exploit new organizational and operational models to save cost, reduce risk, and pioneer new investment ideas,” Monk says. Investment professionals now “find themselves competing over attaining these goals,” he contends.

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Tags: Alpha, CAIA, diversification, Fiduciary, inclusiveness, Liquidity, Portfolio for the Future, Private Capital, Sustainability

The economy has absorbed a lot of shocks in recent times: a pandemic, a European war, an inflation surge, gasoline price spikes, climbing interest rates, parts shortages. Shouldn’t that propel us into a recession?

A large number of Wall Street economic observers and other savants don’t believe a recession will darken our door anytime soon. Federal Reserve Chair Jerome Powell, for instance, argues that the Fed can slow the economy enough to reduce inflation, yet also avoid a downturn. His term for this blessed state of events: “a soft landing.” The Atlanta Fed’s GDP Now estimate foresees a second quarter increase of 0.9%, tepid but still positive.

The public is not as optimistic. A hefty 81% of Americans believe that the nation is either already in a recession (62%) or that one is coming in the next three months (19%), according to a Yahoo US/Maru Public Opinion poll.

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On generally upbeat Wall Street, one outlier is Deutsche Bank, which forecasts a major recession on the way, resulting from the Federal Reserve’s interest-hike campaign, which it thinks will choke off growth. What’s more, gross domestic product did contract in this year’s first quarter, by 1.4%. And if a second negative quarter arrives (which the Atlanta Fed says won’t happen), it would meet the traditional definition of a recession: two back-to-back periods of GDP drops.

Former U.S. Treasury Secretary Larry Summers joins in the negative mindset. “Over the past 75 years, every time inflation has exceeded 4% and unemployment has gone below 5%, the U.S. economy has gone into a recession within two years,” Summers writes in a Washington Post op-ed. The nation has met those two conditions.

Still, the sentiment in the financial community is that there will be a slowdown, but not a recession. “We argue that a slowing economy is very different than a shrinking one,” write LPL Financial’s chief economist, Jeffrey Roach, and chief fixed-income strategist, Lawrence Gillum, in a research note. They point to the 0.7% increase in real consumer spending in April, the fourth consecutive monthly rise. They are also heartened by the public’s $3 trillion in excess savings accumulated during the pandemic.

Brad McMillan, CIO at Commonwealth Financial Network, sees signs that the economy, though softer, stabilized in May. He cites the same factors LPL does and adds high job growth and business investment. “And while there were some signs of softening, especially in consumer confidence and housing, they did not appear to have affected the fundamentals,” he says.

“Another month of solid job growth in May is further evidence that the U.S. economy was not in a recession in the spring,” comments Bill Adams, chief economist for Comerica Bank.

Moreover, the pandemic seems to be receding as an economic threat, says Ian Shepherdson, chief economist at Pantheon Macroeconomics. Airline and restaurant revenues are back to their pre-coronavirus levels, he observes: “Both sectors were hit hard by the Omicron Covid wave, but that’s long gone, and we see no hit from the much smaller wave of BA.2 cases.”

Sure, a recession will show up some day. That’s inevitable. The conventional Wall Street wisdom, however, is that this won’t occur soon.