Beyond Beta

Systematic alternative risk premia-based strategies can offer exposure to return sources that can be strongly diversifying and to factors that have historically been rewarded over the long-term.

Over the long term, strategic allocations to the traditional investment categories of stocks and bonds have been expected to be the key return driver for investment portfolios. Looking across the global economic landscape, however, low interest rates, low inflation, and low-to-moderate economic growth have led to reduced expectations for returns from traditional investment categories. At the same time, risks in the investing landscape have become increasingly complex and interconnected.

Given this environment, investors seek solutions that can both improve expected returns and increase diversification in their portfolios. If traditional betas (market risk premia) are not the answer, perhaps they could turn instead to uncorrelated and idiosyncratic skill-based returns, or “alpha”? Adding allocations to active managers to provide alpha can certainly help with this problem. Pure alpha, however, can be hard to find, difficult to access, capacity constrained, expensive, or even (according to the most skeptical investors) nonexistent.

Neither traditional beta nor elusive alpha is likely to provide the complete solution. However, the new category of Alternative Risk Premia strategies—which straddle the line between beta and alpha—could help investors meet their goals during these challenging times.

Alternative Risk Premia strategies can provide investors with a straightforward way to harvest diversifying sources of return that are not typically separated out from traditional investment strategies or asset classes. Although this overly simplistic description may appear akin to alpha, and may even be “alpha” to many investors, Alternative Risk Premia typically can be captured in a rules-based or disciplined systematic approach, and can be accessed via liquid and relatively low cost strategies. Thus, manager or portfolio performance can be broken down into beta (market exposure), alternative beta (other systematic market or factor exposures), and alpha (the portion of returns not captured by betas and alternative betas).

For investors looking to diversify their traditional beta exposures, and bridge the gap towards alpha strategies, Alternative Risk Premia strategies can be important tools to gain access to unique exposures that have the potential to improve both the diversification and the performance of their portfolios in an efficient, cost-effective fashion.

Examples of Alternative Risk Premia

Risk PremiaType
Value Style/Factor
Momentum Style/Factor
Carry Style/Factor
Size Style/Factor
Quality Style/Factor
Low Beta Style/Factor
Volatility Investment Strategy
Correlation Investment Strategy
Illiquidity Investment Strategy
Arbitrage (convertible bonds, mergers, capitalization structure, other corporate actions) Investment Strategy
Insurance-Linked (catastrophe or event risk) Investment Strategy

Source: Neuberger Berman.

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