Investors Move More Into Alts Following Stock Surge

Illiquid asset classes are among those viewed as stable amid growing uncertainty about the U.S. economy and global public markets.

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Alternative investments such as real estate and private credit funds are gaining popularity as asset owners and fund managers seek to diversify portfolios amid concerns about the U.S. and global economic outlook and the uncertain potential for returns in the stock and bond markets.

The S&P 500 Index surged more than 20% in each of the last two years. Meanwhile, bond performance improved and the spread between investment grade corporate bonds and high-yield debt is negligible. Yet the outlook for the economy is cloudy, despite an overall expectation for solid corporate profits. Inflation ticked higher in January, and consumer confidence has fallen in the last two months. Meanwhile, the potential impacts of the administration’s tariff and immigration policies present colossal question marks.

Amid that uncertain future, a desire for stable assets with defined returns is driving expansion into alternative investments. Typically, investors cycle into the bond market when stocks rise dramatically, though that does not always work and can also push investors to consider alternative options.

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“In 2022 we got a reality check. You can have stocks and bonds that correlate positively in a downward direction, and that’s a really risky phenomenon for investors to experience,” says Jared Gross, head of institutional and portfolio strategy at J.P. Morgan Asset Management. “Investors are very aware that that remains a possibility [in 2025].”

Alt Challenges

Still, alternative investments present some challenges, too. They are often illiquid and can be complex, says Rich Nuzum, Mercer’s executive director of investments and global chief investment strategist.

Gross highlights real estate as an attractive alternative investment for asset owners looking to rebalance portfolios. Prices have fallen, enabling investors to buy assets at a discount, he notes.

“It certainly has been getting a fresh and much more optimistic look, relative to where it was a year or two ago,” he says.

Gross projects investors buying core assets—office, retail, residential and industrial buildings that are leased and generating income—could expect a compound return of 8.1% this year, more than the returns predicted for U.S. equities or fixed income. Investors willing to take on more risk and buy properties that need renovations or repositioning could see a 10.1% compound return.

Alexandra Wilson-Elizondo, co-head and co-CIO of multi-asset solutions for Goldman Sachs Asset Management, says investing in real estate can be tricky.

“We’ve seen pockets of commercial real estate issues,” said Wilson-Elizondo. “It’s about being more nuanced in the space, but we do think it has a creative value.”

Transportation assets such as cargo ships and infrastructure necessities such as natural gas carriers are also gaining favor among investors because they offer a stable income stream and low volatility. Gross says these assets, along with real estate, represent an opportunity for long-term appreciation and a hedge against inflation.

Private Markets

Gross also suggests that investors consider earmarking some of their assets for private equity funds. That will tie up the funds for seven to 10 years, but Gross says it makes sense for investors because the funds own such a large portion of the economy. He predicts they will have a compound return of 9.9% this year.

Private credit funds are catching investors’ eye because they offer a set return, says Nuzum, adding that problems in loan portfolios could adversely affect the outcome. Still, he says, “you’re starting with a yield that’s observable, and so that that gives a bit more certainty or foundation to the decision to allocate to private credit relative to other classes.”

According to Nuzum, some private credit funds will allow investors to withdraw money over the life of the investment. One downside is that the fund may not be investing the money as aggressively as possible. Another is that any one limited partner in a fund may not have access to their money if others have already received cash.

Wilson-Elizondo is also a fan of private credit, she says, because the funds spread risk over a variety of sectors, which is challenging to do in other loan investments. However, she says their popularity has led to higher prices.

For some investors, cash is king. Nuzum says some of the most sophisticated investors are holding cash plus derivative overlays that give them the same exposure as investing in a market-weighted benchmark index comprised of publicly traded, liquid securities.

This allows them to hold cash for a long period without the opportunity costs, he says.

“The idea is that when they hit a crisis or need liquidity, they actually have the physical cash,” Nuzum says.

Cash is not the only thing being invested: Nuzum says many asset owners are investing time to ensure they have appropriate governance structures that will allow them to move on any opportunities that may arise if there is a financial crisis.

“They’re creating these opportunistic governance arrangements to make sure when we hit a bump, [they’re] actually going to benefit from the bump when other people are panicking and getting out,” Nuzum says.

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With Interest Rates Elevated, It’s Time for Fixed Income

Investors are upping their allocations and focused largely on U.S.-based investments.

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With interest rates at levels not reached since 2007 and expected to stay elevated despite a series of Federal Reserve rate cuts last year, fixed income investments have increasingly become an attractive asset class for allocators that, in recent years, have been under-allocated to some sections of rates and credit investments.

“The good news for investors is that higher rates bring higher yields,” says Van Hesser, chief strategist at the Kroll Bond Rating Agency. “Arguably, for the first time in 17 years, fixed-income yields are attractive, making good on its promise to do what investors expect [and] provide income and diversification benefits to the 60/40 portfolio.”

In a bid to capture some of those higher returns, asset owners are increasing their allocations to fixed income after years of scant results from Treasurys and other securities in the asset class.

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Our asset mix continued to shift toward a higher exposure to fixed income, where return opportunities remain attractive,” wrote Jonathan Simmons, chief financial and strategy officer at the Ontario Municipal Employees Retirement System, in a report detailing investment returns.

Among public pension funds, allocations to fixed income grew to 26.1% in the first half of 2024, up from 19.7% a year earlier, according to a recent survey commissioned by the National Conference on Public Employee Retirement Systems.

“We believe that the outlook for fixed income investors is positive when considering prospective returns as well as providing effective diversification to equities within multi-asset investment frameworks,” said Alexander MacKey, co-CIO, fixed income at MFS Investment Management, in a recent report.

Fixed-Income Outlook

What fixed-income securities do strategists recommend? Anders Persson, CIO for fixed income at Nuveen, recommends aiming a bit below investment grade; he also suggests areas like leveraged loans, collateralized loan obligations and certain other categories of securitized assets.

“Within securitized, we are stressing areas like CMBS and ABS—we’re still finding some dislocations there,” Persson says. “We are also stressing to think a little bit outside the traditional kind of investable universe and consider private placement, so private fixed income, from an investment grade perspective, parts of the private credit world, as well as a diversifier, making sure [investors are] leveraging the full opportunity set that fixed income is offering at this point.”

Margaret Steinbach, fixed-income investment director at Capital Group, says the firm is seeing increased interest in core and core-plus fixed-income offerings.

“It’s been an area where a lot of pensions have been under-allocated for the last several years because yields were much lower, and now with where yields are and the compression that we’ve seen in terms of risk premium across different credit categories, a lot of plans are increasing their allocations to core and core-plus,” Steinbach says.

Other areas of increased interest, Steinbach says, include multi-sector credit or flexible credit strategies, as well as multi-asset credit.

Mortgage-backed securities are also among the attractive options, according to Kevin Flanagan, head of fixed-income strategy at WisdomTree.

“U.S. corporate bond spreads reside at historically tight levels, but continued economic growth and a less restrictive Fed policy makes us neutral in the credit space,” Flanagan says. “We see better a valuation opportunity in securitized assets and are overweight agency mortgage-backed securities.”

Flanagan touts an active/passive fixed-income approach as WisdomTree’s theme for 2025.

“The passive cornerstone consists of Treasury floating rate notes, which offer income in a relatively flat yield curve setting without the potential volatility that has been heightened in fixed-coupon securities,” Flanagan says. “The active weight can focus on enhanced yield options or be more total-return-based.”

U.S. Fixed Income Preferred

Many strategists and asset managers see the U.S. bond market as a standout opportunity. Morgan Stanley, in its 2025 global fixed-income outlook, wrote that the most attractive opportunities in fixed income lie in securitized credit, particularly U.S. mortgage-backed securities.

“U.S. households with prime credit ratings maintain strong balance sheets, which should continue to support consumer credit and ancillary structures, especially as housing prices remain firm and the unemployment rate stays low,” the Morgan Stanley report stated.

Emerging markets bonds, however, are likely to face headwinds, the firm wrote: “Stronger U.S. growth, coupled with higher rates for an extended period of time and weaker global trade linkages, is typically not conductive to strong [emerging market] performance.”

Echoing this sentiment, Nuveen’s Persson says, “We’re favoring a little bit more of the U.S. over non-U.S. opportunity, and we’re comfortable going into that credit part of the opportunity set, given that we are not expecting default rates to be picking up.”

WisdomTree’s Flanagan also touts a U.S. focus. “Our focus would be more on U.S.-based solutions for fixed income. This helps mitigate some of the uncertainty surrounding currency risk and gives fixed-income investors the opportunity to take advantage of the return to a more ‘normal’ rate setting here in the U.S.”

While Europe offers opportunities in fixed income, the U.S. is preferred, Persson notes: “We think Europe could offer some good rates, we’re comfortable going longer duration, given the ECB is cutting rates in Europe pretty aggressively, but generally from a credit perspective, we’re more comfortable staying in the U.S.”

Capital Group’s Steinbach concurs: “I think the U.S. is really standing out from both a growth and relative value perspective, so that’s what is causing people to have those views. It is likely that U.S. exceptionalism continues into the future. However, there are select opportunities within say, emerging markets. But from developed market relative value, the United States continues to stand out in terms of being most attractive.”

Inflation and Fed Policy

With the Federal Reserve signaling that interest rates may remain elevated, inflation remains top of mind for many market participants, who are also evaluating the impact of President Donald Trump’s policies, including tariffs. “The big question mark is policy implications coming out of the new administration,” Steinbach says.

“We do expect that there will be some upward pressure on core PCE related to what the final tariff impact is,” Persson says.

How are investors approaching policy?

“Persistent inflation not abating, along with rising debt concerns voiced by bond vigilantes, has made domestic participants hesitant to purchase much on the long end of the curve,” says Michael Ashley Schulman, partner in and CIO of multi-family office Running Point Capital Advisors.

“Based on the macro/inflation outlook and prospects for a less aggressive rate cutting policy from the Fed, we are neutral with respect to duration,” Flanagan says. “We would highlight how extending too far out in duration has proven to be a fleeting strategy and do not see that situation changing any time soon.”

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Is the Shine Coming Off of Private Credit’s ‘Golden Age’?

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Is the Shine Coming Off of Private Credit’s ‘Golden Age’?
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