Stop Guessing Tomorrow: Insights on Long/Short Strategies

Stop Guessing Tomorrow: Insights on Long/Short Strategies

Anu Rajakumar: In a world shaped by shifting policies, geopolitical tensions, and rapidly evolving market structures, uncertainty has become the new norm, bringing with it heightened volatility. For investors, the question isn't just how to weather the storm, but how to turn challenges into opportunities. Could long-short strategies hold the key as a powerful tool for diversification and risk management in these unpredictable times? What should investors look for in a manager as they look to capitalize on today's opportunities while mitigating risks?

My name is Anu Rajakumar, and joining me today is Marc Regenbaum, managing director and portfolio manager for the Neuberger Berman Long Short Fund. Marc, welcome to Disruptive Forces.

Marc Regenbaum: Thanks for having me, Anu.

Anu Rajakumar: Now, Marc, market environments always bring their own challenges, but the current mix of volatility and sector concentration seem particularly unique. How should investors think about navigating this environment, and what stands out to you about its current characteristics?

Marc Regenbaum: We like to say starting points matter. We believe we are living through a confluence of events today, with business cycle normalization, meaning businesses are competing more for market shares. We are also going through AI normalization, where some of that technology is maturing. We're doing all of this against a rapidly changing policy backdrop. These days, monetary, fiscal, and foreign policy are increasingly intertwined, leading to a very uneven choreography for policymakers themselves. All the while, as you said, we're sitting with markets at concentration levels rarely seen.

With that, we are seeing volatility and policy uncertainty real time in today's markets. April's market performance, starting with that downdraft and then the rapid recovery, was real-time evidence of what we're going to be experiencing going forward. That said, we do believe volatility can be seen as an opportunity rather than a risk, given the market structure. As active investors, we are suddenly more focused on the details and the risk management process we've employed for many years. For us as portfolio managers, the emphasis is on preparing for that high-volatility regime.

We like to say, think of how the markets have performed since the presidential election itself, because tariffs may come and go, but there will be continuous change, whether it's immigration policy, geopolitics, tax policy, you name it. Last but not least, you put it all together for investors. I think it's important for investors to take a perspective of whether they want to reset their portfolios, and really take a step back and reflect on how they felt during recent market swings. Did the portfolios really behave as they expected? Were they able to sleep at night? The magnitude of the change that we're seeing have just been magnificent, and you have an opportunity to adjust if you weren't really sleeping well over that period of time.

Anu Rajakumar: Yes, I'm sure the last few weeks and months indeed have been quite magnificent in a variety of different ways. Marc, I'm noticing that long-short strategies are increasingly gaining recognition. I recently saw articles about Norway's $1.8 trillion Sovereign Wealth Fund, announcing that they will be allocating to long-short managers. What does this signal about the role of these types of strategies in portfolios when it comes to diversifiers?

Marc Regenbaum: I think it's a great question, but I have to take a step back and say that one size does not fit all for long-short strategies. There are many different flavors of long-short strategies out there. Institutional firms have that due diligence capabilities to understand whether they're looking at a 130-30 fund or a market-neutral fund. There's very much different levels of risk taking through the likes of understanding gross exposures, net exposures, leverage, and concentration approaches of different long-short strategies.

For many of them, like ourselves, what's important, as you alluded to in the lead-in of the question, is can you dampen volatility while still capture upside potential? That smoother ride phenomenon or make more by losing less. It's really important for investors to make sure they're aligning their goals and risk tolerance with the strategy that they're looking at. All of this can help decide whether long-short can be an anchor of your investment strategy, or just a broader piece of an overall asset allocation. Within the construct of today's environment, we truly believe that we are having a larger total addressable market for long short strategy opportunities, given increasing dispersion along the way.

Anu Rajakumar: Excellent. Now, Marc, I know you've been managing long-short strategies for a long time, almost two decades, I believe.

Marc Regenbaum: That's right.

Anu Rajakumar: It must have given you valuable insights over the last few years. You've gone through ups, downs, and everything in between. What lessons has history taught you about effectively managing these strategies?

Marc Regenbaum: It's a great question. One, if I was to take a step back and conduct my own due diligence on long-short managers, my checklist would really start with the following questions. First and foremost, does that manager have the ability to add value through their short process. Shorting is a very different strategy than doing your traditional long investing. Second, I'd make sure, is there a process and discipline in executing the strategies through changing environments? You want to understand how the portfolio would behave in different market environments.

Of course, where it should really shine is understanding the historical performance during the periods of volatility. How does one conduct that diligence? I think there are some specific questions you can actually go about to ask the managers. First, what is your long-term beta? That helps to give you so much information content of where it can fall within a broader portfolio asset allocation. Second, you could even use recent market environments, such as how did you perform during the challenging markets of 2022, and how did you perform during the recovery of the markets in 2023?

Remember, long-short strategies aren't just about protecting money, it's also about making money, and you have to actually be able to compound that capital back up to actually make our end clients some really attractive returns over time. It's really important to understand a manager's risk management philosophy. Look, I think if you take a step back in today's environment, one may even suggest that there's potentially clear lessons from the 2000 to 2010 market period. This is another one where you can see the opportunity of making attractive returns through not just the long side of the portfolio, but the short side of the portfolio as well. After all, from that 2000-2010 period, we actually lived through a decade that was basically a flat equity market environment.

Anu Rajakumar: Terrific. You mentioned, asking that question, what's your long-term beta? Just out of curiosity, what's reasonable when folks are looking at long-short managers, what are thresholds that they should really be thinking about?

Marc Regenbaum: Again, it goes back to what you were trying to achieve for your risk returns. I think the reality is, when you start to exceed betas that are in elevation of 0.6 or so, you're starting to be long only light, for lack of a better word. Of course, your classic market-neutral approaches would usually approach around 0 or + or -0.2. For us, we think a really nice tiptoeing to equity markets or dial-down from full-blown equity markets, said differently, your classic equity hedge, should really generally be in that, call it about 0.4 area.

Anu Rajakumar: Terrific. Thank you very much. Now, Marc, you've mentioned active management a couple of times so far, which, of course, active management plays a critical role in the success of long/short strategies. Could you talk about why active management is so important in this context?

Marc Regenbaum: Absolutely. One of my favorite topics for sure.

Anu Rajakumar: You just lit up when I said that question.

Marc Regenbaum: I had to.

Anu Rajakumar: I love that.

Marc Regenbaum: It is the importance of knowing what you get from your active manager and, candidly, what you get from your passive management solutions as well, because passive is not riskless. It is absolutely something that is comprised of the underlying exposures that the market is made up of. When you think about today's world, we have just living in a world of volatility that has so much information content. If you are an active manager and you want to understand your artificial intelligence exposure, all you had to do is look at the market dynamics and how your portfolio performed on the day DeepSeek entered the conversation.

If you want to understand your exposure and how much you have that's related to tariffs, understand what happened after the announcement on April 2nd, and similarly, when there was a 90-day pause just a week later. You are very much seeing dynamics and details come to life across sectors and across industries that create real opportunities for the active managers. I think in today's world, the active manager debate actually is getting a little bit watered down. I appreciate the simplicity of it, but one of the most common conversations is the Magnificent 7 versus everyone else, or the remaining 493 stocks in simplicity. It's just not how we view the world.

We think the importance of this world that we're living in today is focusing on the details. It's not as simple as just top-down versus bottom-up. There are going to be individual themes that are going to have real implications for different sectors, different companies that are going to create significant performance dispersion between winners and losers, and again, even within the same sub-sectors. Of course, the cherry on a Sunday when you think about long-short within this active conversation is some of the details that come along with that strategy. The ability to earn interest income from your short proceeds, the potential tax efficiency one can have if your strategy goes down that route.

Again, bring it all together. Long-short, I'm, of course, inherently biased by speaking about this strategy, of course. We love this environment. We are passionate about it because there's so much opportunity to take advantage of active management, to take advantage of the strategy, to make more by losing less for our underlying clients, and ultimately to bring process and risk management to today's uncertain markets.

Anu Rajakumar: Yes, absolutely. No, it's so great to see you so passionate about even tough times like these. I think a lot of investors find it very difficult to stay disciplined in these kind of uncertain environments, especially with temptations of chasing trends or reacting to volatility. Humans are emotional, and that sometimes comes through in our investment decisions.

Marc Regenbaum: For sure.

Anu Rajakumar: Marc, what advice would you give to investors on maintaining discipline during times like these?

Marc Regenbaum: You were spot on. For better or worse, I love this market backdrop. This is the type of market backdrop, I think, where process and risk management and experience comes to life. It's very different than what I like to call the FOMO markets, or the fear of missing out, which one might make the case was happening about 12 to 18 months ago. I think where I'd start the conversation, though, is when you see volatility and you see uncertainty, the first rule is stop trying to guess tomorrow.

Guessing can very much lead to investors to compounding mistakes because you can be whipsawed very quickly. Again, April was a great example of that because it would've proved very expensive if you sold at the low and then never got back in into the underlying markets themselves. Again, the importance of having a process and sticking to it during unpredictable markets or unpredictable times is paramount in today's world. After all, it's not easy.

We are absolutely inundated with information each day, and sometimes the very hardest thing to do is actually to stay at the course. For us, it's about understanding process. That process itself is informed by our experience. Then, very importantly for our investors, we're hoping to use the volatility to our advantage so we can focus on their long-term goals and make attractive risk-adjusted returns throughout this uncertainty.

Anu Rajakumar: Absolutely. Uncertainty in the market doesn't just impact investors. It has broader implications for companies as well. What are some of the key challenges or adjustments that you're seeing companies face during these uncertain times?

Marc Regenbaum: I said the other was my favorite question. This might actually be something where I'll really get too excited to speak about. I love the bottom-up analysis and meeting with the companies to understand the real-world implications that we're trying to decipher as investors. The reality of the situation is that the risk management principles for companies very much parallel those that we as investors are trying to navigate, except it's probably harder. The CEOs themselves are actually the chief capital allocators. They have to focus on those balance sheets and those cash flows.

Of course, relative to investors like myself and my team, where you have liquid investment strategies, their ability to shift course is much more difficult, especially since many of their projects are very much longer lived. The challenges of today's backdrop faced by the corporations are managing supply chains, managing customer expectations, managing capital allocation in these uncertain environments. As we discussed earlier, the myriad of policy changes on the table are extremely vast, and they're significant, and that extends beyond the tariffs. The magnitude and implementation approach matters greatly, and these management teams are having to dig into the details of their own portfolios to understand how they want to adjust.

We like to say what's been going on is, as the companies are waiting to hear the rules of the actual game that we're playing today, investors are hoping for the pause that refreshes. We are seeing this real time, again, I spoke about sub-sectors, but you get very different dynamics if you are a company such as Walmart and how they're adapting to policy changes with tariffs and their underlying mix of business, which is a little bit more consumables as opposed to discretionary products versus even their closest competitor such as Target, which has a little bit more of a product category mix that has a little bit more discretionary in terms of the nature of what their customers are buying.

Know the company's products, know their geographies, know the channels, the customer base, the pricing power of the underlying businesses. This is the stuff that active managers were trained for, that they yearn for, and now they have to actually put it to work. Combining all of that with the details of balance sheet strengths, which oftentimes equity investors overlook, can really determine how aggressive individual companies can be. Again, that can determine how much alpha generation the underlying securities can deliver as well.

Anu Rajakumar: All right. That's terrific. I think we'll end our comments there on that high note, I think, Marc. Before you go, I have to ask you one quick bonus question. I'd love to know, Marc, what is your guilty pleasure or hobby that most people wouldn't expect from you?

Marc Regenbaum: Oh, boy. That is a surprise question. I will tell you. I think what most people don't appreciate from me is, while I tend to invest in a lot of healthy foods and companies, I believe in the secular trend. I might be the unhealthiest eater that is out there. I absolutely love--

Anu Rajakumar: What's your fast food place of choice, for example?

Marc Regenbaum: Gosh. I'm a heavy chicken parm pizza and bagels kind of person. From that kind of dynamic, on the other side, I will eat in some of the-- I'll bounce it out with a little bit of sweet green and McDonald's and just salad as well. I'm open to all.

Anu Rajakumar: The heart wants what the heart wants.

Marc Regenbaum: Exactly. Risk management and balance.

Anu Rajakumar: Exactly. Absolutely. Thank you for sharing that and for your insights today, Marc. In today's conversation, you really emphasized the critical role that long-short strategies can play in managing volatility and potentially capturing some upside potential as well. A few quotes that I wrote down that I really liked that you said, number one, one size does not fit all when it comes to long short strategies. You said it's important to align strategies with investor goals and risk tolerances.

Another line that you said passive is not riskless, which I think is an important reminder that we have to have. Then lastly, stop guessing tomorrow, I love that you talked about the importance of having a robust process and sticking to it, even, or I should say, especially in uncertain times as we're facing at the moment. Thank you again for being here and for sharing those thoughts today.

Marc Regenbaum: Great to be here. Thank you so much.

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