Topical Research

Refocusing the SRI/ESG Conversation: Disruptive Change and Investment Opportunity

Socially Responsible Investing (“SRI”) or investing on the basis of Environmental, Social and Governance (“ESG”) factors have become some of the hottest topics in the investment world. Increasingly, stakeholders are demanding investments that strive to further these goals and/or divestitures from those antithetical to them. And at the same time, institutional investors and investment managers generally have a fiduciary obligation to strive to maximize returns while taking an appropriate level of risk on behalf of those stakeholders. These potentially competing ideas have come to the fore, with questions about whether return maximization should be framed in financial or social terms.

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Smart Beta, Alternative Beta, Exotic Beta, Risk Factor, Style Premia, and Risk Premia Investing: Data Mining, Arbitraged Away, or Here to Stay?

The white paper outlines foundational characteristics of smart beta strategies and the impact of data mining and arbitrage on historical backtests when attempting to calculate accurate forward-looking return estimates for such strategies. The key identifying assumption for the particular smart betas and time periods analyzed is motivated by Nobel Laureate Eugene Fama’s famous 1991 Efficient Capital Markets survey paper (i.e. “Efficient Capital Markets: II”).

Pete Hecht, former Senior Investment Strategist, analyzed both backtested and actual performance data over a 25-year-period and found that all of the performance metrics decreased during the out-of-sample period. The out-of-sample performance reductions ranged from 30% to 71%, suggesting that data mining and arbitrage play a material, economically significant role in performance expectations.

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Fact or Fiction: Stocks and Bonds are Less Risky for Long-Term Investors

Conventional wisdom suggests that long-term investors face less investment risk, thus impacting their strategic asset allocation. While there are many reasons for risk to vary with investment horizon, the typical explanations (e.g., time diversification) are misguided. This new research piece provides a framework for evaluating risk at different investment horizons, which ultimately both challenges and clarifies conventional wisdom.

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How to Evaluate Hedge Funds or Any New Investment

This piece provides a framework for evaluating new investments in the context of the entire portfolio. It introduces and promotes the use of the Appraisal Ratio, an easy to calculate, risk-adjusted performance statistic that accounts for a new investment’s expected return, risk, and diversification attributes in a manner consistent with Markowitz’s modern portfolio theory. Common performance evaluation mistakes and misperceptions are also discussed.

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Risk Parity Is Not a Hedge Fund Strategy & Other Common Risk Parity Misperceptions

Over the past few years, risk parity has become a component of most investors’ lexicon and, possibly, portfolios. Risk parity products have also become more common in many asset management firms’ offerings. However, even with all of the attention on risk parity, there is still a significant amount of confusion surrounding it. This piece will examine some of the common risk parity misperceptions and provides an alternative, clarifying explanation.

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Hedge Fund Replication: Is it Appropriate for You?

Recognizing the investment community’s significant interest in hedge fund replication and related topics such as alternative beta, the report takes an in-depth look at these complex attempts to mimic the core risk and return properties of certain hedge fund strategies within a more accessible investment form than traditional hedge fund investing. The paper discusses the two primary types of replication, “top down” and “bottom up,” reviews how replication can help improve manager underwriting and monitoring, looks at the issue of liquidity rights, and discusses expected changes in investment returns given the growing proliferation of replication products.

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