With
an increasing number of charities looking at investing in
illiquid and difficult to access asset classes like property,
hedge funds and private equity, the required levels of diversification
have increased.
Ten years ago, it was normal for charities to invest in UK
equities and UK government bonds. A portfolio would have been
considered to be “well-diversified” if it held
shares in 50 UK companies and perhaps three Treasury stocks.
Today, if one invested directly across the full range of asset
classes considered suitable for charities, the underlying
number of holdings might be three to four times that number.
The levels of diversification can be achieved by holdings
units in the two Alpha Common Investment Funds, with low levels
of administration.
Equities
Equity diversification remains important, both within the
UK and amongst overseas stockmarkets. The two Alpha funds
will invest across a wide range of industries and sectors.
In addition, we diversify across the
“themes” that drive our stock selection process.
We will carefully manage the levels of exposure to smaller
and larger companies and will monitor the amounts invested
in different valuation styles, such as growth, value or high
yield.
Bonds
Our bond holdings will also be well-diversified.
Even small additions of corporate credit mean that the bond
allocation needs to be monitored closely. Many charities have
been used to holding all, or at least a very significant proportion,
of their fixed interest allocation in UK government gilts. Others have become used to holding corporate bonds,
and will have benefited from the premium returns they offer.
However, by adding corporate debt, one does increase the
risk of capital loss in what the majority of trustees will
consider the defensive element of their portfolio. The bull
market in bonds has perhaps lulled investors into a false
sense of security. Within the Alpha Common Investment Funds,
we manage and analyse corporate credit in much the same way
as we do equities.
In addition we also have internal risk controls as to the
average credit rating over the bond position, (AA-) minimum
average credit rating, and a minimum rating for any individual
position (BBB.)
Property
There are certain asset classes that due to the size of the
individual lots, or due to their particularly illiquid nature,
require unusually large sums to be invested to achieve genuine
diversification. UK commercial property is one of them and the only way most investors can gain access to such
high quality properties is via some form of pooling arrangement.
There are about 30 unitised vehicles that charities can invest
in to obtain exposure to the UK commercial property market.
Some of these vehicles concentrate on a particular type of
property, others have a regional bias, while some offer broad
access to the whole market. Of these, several are actively
aimed at charities, and while they are extremely tax-efficient
(they do not pay stamp duty on purchases) they need to compete
on performance grounds with some of the larger vehicles which
have longer track records and greater levels of diversification.
In addition, just as the two funds will consider investing
in UK and overseas equities, UK and overseas bonds, we will
also consider UK and overseas property. Following their introduction
in 1960, Real Estate Investment Trusts in the US have now
spread to approximately 16 countries and have a global market
capitalisation of £430 billion.
Hedge
Funds
The small allocation to hedge funds acknowledges that although
this is still a young industry, the weight of evidence supports
some of what has been promised: incremental absolute returns
in all market conditions. There is a significant pool of investment
talent only accessed through hedge funds.
The Fund’s policy will be highly selective and investment
will take place via a combination of “funds of funds”
and single manager vehicles. The growth over the last five
years of the London-listed fund of funds market is a welcome
development. These vehicles, which trade like investment trusts
on the London stock exchange, add a degree of volatility to
hedge fund performance, as the shares can trade at premiums
and discounts to their true underlying value. However, they
also benefit from daily liquidity in a way that the majority
of “open-ended” hedge funds do not.
Other
Asset Classes
The Alpha Endowments Fund will also seek attractive opportunities
in other asset classes such as Private Equity and Commodities.
Such asset classes often have high minimum investment thresholds
and need to be intensely researched. However, opportunities
do exist in these illiquid and often opaque markets: while
exposure is likely to be limited, we will consider opportunities
as they present themselves.
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