Traditional policies and strategies may not necessarily result in palatable investment returns, especially if the general movement of asset classes fails to deliver conventional levels of growth.

Instead, the funds that will outperform in 2012 are those run by managers who are able to be significantly unconstrained and flexible enough to exploit these market volatilities. These are your alpha managers.

Investing in a broad range of equities and bonds did not reward investors in 2011.

Considering the issues that plagued 2011, we would caution on a continued volatile and precarious year ahead. Furthermore, on a longer term basis, the return expectations from traditional asset classes have to significantly dampen, given the very new world we find ourselves in since the 2008 market crisis.

Therefore, traditional balanced portfolios that have relied on beta performance in the past, now have the potential to disappoint going forward and as such, alpha will be an incredibly important component for portfolios next year and the further years to come.

Hedge funds lend themselves to delivering alpha as they rely heavily on portfolio manager skill and selection.

Evidence of this can be seen in 2011 when studying the returns between local equities and hedge funds.

While the ALSI has delivered a paltry 2.5% during 2011, the Blue Ink Hedge Fund Composite, which tracks the average performance of around 100 hedge funds in South Africa, has delivered in excess of 9.0% during the same period.

And this can be attributed to investor skill – not beta.

In these increasingly volatile environments, most investors are reverting to some very simple investment objectives. That is, to make as much return as possible when risk is rewarded and avoid capital losses when risk is penalised. While over the last 10 years or so, the Long Only community of investment managers have embraced this concept and offer several high quality products within the constraints of their mandates, the Hedge Fund community still typically own this philosophy of investment management as their unconstrained nature of investment products provides little excuses for capital losses in variable market conditions.

He says that if this level of volatility continues and investment managers continue to deliver appropriately, investors in hedge funds may see some very good returns this year. “As long as the environment is conducive for alpha, hedge fund investors should see good returns come through from skilful managers who make use of appropriate risk managed strategies,” Pillay concludes.

Selwyn Pillay, portfolio manager at Blue Ink Investments

Tags: #ALSI, #hedge funds, #market volatility