Arthur-Karas

ACCESSING ALTERNATIVE ASSETS TO TEMPER DOWNGRADE WOES

15 Jun 2017

The threat of multiple rating downgrades continues to be a significant risk for the South African economy, creating uncertainty in the markets and an intensified search for yield. However, arguably more important for investors, the current low-return environment, means they will need access to a full investment toolbox in order to find returns.

While the astute investor will know to invest over the long-term, the increased level of uncertainty has further prompted the need to access different sources of return to deliver on investment expectations. This is according to Old Mutual Edge28 Fund Co-Manager, Arthur Karas, at Old Mutual Investment Group, who says that Regulation28 (of the Pension Funds Act) was amended in 2011 to give funds an additional edge by allowing more investment into hedge funds and private equity – so-called alternative assets.

However, Karas points out that these assets are more challenging to access via unit trusts. “A Fund like the Old Mutual Edge28 Fund, a unitised life-wrapped fund, is more flexible than a unit trust and can therefore give retail investors exposure to these kind of alternative assets, which typically wouldn’t be included in a High Equity unit trust.

“Old Mutual Investment Group has a long track record when it comes to successful Private Equity investment and has a dedicated team focused on selecting Hedge Funds,” he says. “These asset classes provide a different pay-off profile, and access different sources of return. For example, Private Equity funds can arbitrage the difference in valuation between listed and unlisted valuations.

“In order to manufacture returns against the backdrop of this low-return world, a fund that can incorporate assets into its portfolio that are outside of the realm of traditional equities, bonds or cash, is a definite advantage.”

The Edge28 Fund invests primarily in growth assets while still complying with the maximum asset allocations under Regulation 28. “The existing limitation on ‘alternative’ asset classes was increased from 2.5% to 15% of funds under management, of which 10% could be allocated to hedge funds, 10% to private equity investments, a 2.5% upper cap on ‘other’ assets and a 5% sublimit per fund of private equity or hedge funds,” explains Karas.

“Alternative assets tend to have a low correlation to traditional investments, offering valuable diversification,” says Karas. “Ultimately, including alternative assets will generate a better risk-adjusted return over time.”

Included in the definition of alternative assets that the Fund invests in are other non-traditional assets such as convertible bonds, preference shares, commodities and exchange-traded funds. “These assets allow us to consider multiple entry points for the same underlying investment; for example, investing in a Commodity ETF or a mining company via shares, or possibly a Convertible Bond issued by the mining company,” says Karas.

Following ‘Nenegate’ in 2015, the Edge28 Fund managers changed the Fund’s allocation, a shift that Karas says set the portfolio for a far smoother ride through the subsequent periods of turmoil. “The strategic asset allocation requires most of the assets to be allocated to growth investments, and the portfolio was realigned for a more volatile political environment. In terms of current allocation to alternatives, the fund has about 5% in private equity and hedge funds, and another 5% in other alternative assets such as convertible bonds and exchange-traded funds.”

He emphasises that liquidity risk is an issue but can be managed within the greater portfolio.

Karas concludes that it is essential, given the global low-yield environment, to ensure access to all available investment tools going forward. “Rather than positioning for a particular short-term outcome, we are choosing to remain well diversified, with a tilt towards growth assets.”

  • Private Equity
  • Arthur Karas
  • MacroSolutions