Pay for Alpha, Not Beta

Terry Flanagan

The formula for successfully integrating a hedge-fund allocation into an overall portfolio can be summed up as paying fees for alpha (defined as non-market correlated, skill based returns), while minimizing the amount of fees attributable to market beta.

“In hedge-fund allocation we’re very much focused at this point on alpha generators,” said Adam Geiger, chief investment officer at New Legacy Capital. “When the markets are moving generally upward as they’ve been now since 2011, and even before then, you don’t want to pay away 20% of the returns generated by beta. So most of the exposure that we have at this stage is through alpha generators who have very constrained net market exposure. In other words, we are willing to earn less total return by taking much less risk than unhedged exposure to the market provides.”

Geiger will speak at Markets Media’s Global Markets Summit New York on Nov. 20.

Some of these “alpha generators” involve long-short equity, but there are also some very large, well-established multi-strategy funds that are also alpha generators. “You’re not necessarily paying for net exposure to the market there,” said Geiger. “So that’s been our focus and it will continue to be our focus.”

Asset allocators have shifted out of cash and increased their allocations to equities, according to the BofA Merrill Lynch Fund Manager Survey for November.

A net 13 percent of respondents to the global survey are overweight cash in November, down from a net 27 percent in October. The proportion of asset allocators overweight equities has risen by 12 percentage points to a net 46 percent. Hedge funds have also increased their net allocations to equities – 43 percent of surveyed hedge funds are net long equities, up from 35 percent one month ago.

“Deflation might be in the back of investors’ minds, but taking on risk, especially in equities, in Japan and in the dollar is at the forefront of their thinking,” said Michael Hartnett, chief investment strategist at BofA Merrill Lynch Research, in a release.

New Legacy is a multi-family office with three major lines of business: hedge fund allocation, direct investing in private equity, specialty finance and real estate, and wealth management. “We have exposure to a number of different investment programs on our platform,” said Geiger.

In that regard it is more opportunistic. “Some of what we do is reactive and some of it is proactive,” Geiger said. “For example, on the proactive side we wanted to get involved in real estate special situations in New York. We put out some feelers and we found a deal that was to our liking and to our client’s liking. We made a proprietary investment alongside the initial client and syndicated the remaining capacity to our other clients as well.”

The opportunistic approach is highly situational and independent of trend following. “We don’t generally attack direct investing from a macro perspective,” Geiger said. “It’s primarily bottom up. We get plenty of idea flow being plugged into our family office network, among others.”

On the wealth management side, New Legacy manages bespoke portfolios for large families. Unlike other wealth management firms, it doesn’t employ a cookie cutter approach. “We don’t create different model portfolios and plug and play.” Geiger said. “We do it much more so in a consultative and interactive way with our clients.”

Geiger uses both passive and active vehicles, such as ETFs, mutual funds, hedge funds and private equity. “We’ve got a number of different ideas that we bring to the wealth management side of the business,” he said. “But at all times we’re always seeking to protect capital first. We have expertise in alternatives; we know how to analyze them and the role that they fill in balancing a portfolio. We use passive vehicles for areas where we want to have beta and active vehicles where we’re willing to pay fees for alpha.”

Featured image via Dollar Photo Club

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