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Allocating alternative assets: Why, how and how much?

The essential

Definition, Objectives and Investment Performance

  • A Highly Diverse Investment Universe
  • Investor Objectives
  • How Should These Assets Be Classified?

Return, Risk and Correlation

  • A Disrupted Relationship between Risk and Return
  • Nature and Frequency of the Data Series
  • Expected Return Estimation Methods
  • Estimating Volatilities and Correlations

Inserting Alternative Investments into an Allocation: Amundi’s Recommendations

  • Recommended segmentation method
  • The Importance of Institution-Specific Factors
  • How Can You Formally Define Exposure to These Assets?
  • Ramp-Up Timing


Amundi Discussion Papers Series - November2014

Allocation alternative

Global institutional investors are showing a growing interest in alternative investments, which is further accentuated by persistently low interest rates. In so doing, they hope to improve their portfolios’ returns while also diversifying their assets. But what framework should be used for evaluating these advantages? And how large a role should these assets play in the investor’s portfolio?

To come up with initial answers to these questions, which deserve to be explored further in the future, we define the asset classes typically included in this mixed bag: hedge funds and, most importantly, unlisted assets - real estate, private equity, infrastructure and loans - and show how they meet various investment objectives. This has led us to propose a method for classifying these assets into segments based on their sensitivity to macroeconomic factors, which may be particularly helpful in estimating their return. This was done because the traditional relationship between return and risk is a poor fit for these assets, for various reasons covered in the second part of this paper: infrequent data, smoothed valuation methods and asymmetrical return distributions.

Next, we go into recommendations for institutional investors who want to better calibrate these investments within their portfolios. We advise a pragmatic approach to the matter, which takes into account the investor’s own unique features in terms of its liability constraints, investment horizon, current asset allocation structure and suitability for alternative investments. When it comes to risk, we suggest that investors use different methods: representative listed assets, regulatory parameters and probable maximum loss in stress scenarios. Each one has its own shortcomings, but by combining them, a useful assessment can be made. Finally, the targets set for calibrating these assets within a portfolio should be expressed as risk ranges rather than as weights, and the investor must proceed in stages to achieve them.

TAZE-BERNARD Eric , Chief Allocation Advisor
de LAGUICHE Sylvie , Head of Quantitative Research at Amundi

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