Innovation is a mainstay of the investment management industry. Through the years, new ideas have led to what is accepted as “common knowledge” today: from the esoteric, e.g., modern portfolio theory, to the seemingly simple approach of indexing.
For this special report, P&I reporters Drew Carter and Douglas Appell interviewed scores of investment managers and academics to get a glimmer of what institutional investors might be adding to their portfolios in the next decade or two.
One of the most fascinating involves artificial intelligence.
A model being developed by Acadian Asset Management applies “machine learning” technology. In other words, the model would learn from market experiences to recognize return patterns. Based on that constant education, the model would be able to adjust better and more quickly to varying economic environments.
Two other ideas urge investors to take a broader look at the world around them.
Towers Watson is in the early stages of developing an agent-based model. While models based on modern portfolio theory assume all agents will act the same way, agent-based models assume a world of complex interactions among agents. These agents can be people, types of investors or policymakers.
And Bernhard Scherer, professor of finance at EDHEC Business School in London, argues that pension fund executives and even defined contribution participants should take into account shadow assets — assets that are outside the investor's asset allocation decision but still have a strong impact on the fund.
Investors' need for liquidity without sacrificing return is behind a new BlackRock strategy. By building portfolios of exchange-traded funds that are weighted to mirror the median asset allocation of the largest institutional pension funds, firm executives believe they can resolve client concerns about maintaining liquidity without suffering the drag on performance that cash investments can have.
Finally, the current emphasis on better managing through volatile markets has two other firms offering their own twists on risk-based dynamic asset allocation. AlphaSimplex Group's approach reallocates capital as often as daily in response to short-term changes in an effort to maintain a more stable level of risk, while Windham Capital's strategy is based on proprietary measures of market turbulence and systemic risk.
Brief looks at each of these strategies are on these pages.