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Quantitative Investment Solutions – such as Risk Premia or Dynamic Protection Strategies – offer a liquid and cost-efficient gateway to improved portfolio efficiency by reducing investors’ dependency on equities and bonds as the dominant sources of returns in most portfolios. They are accrued by following a systematic process that builds on the robustness of fundamentally anchored, empirically validated and persistently recurring patterns driving cross-asset returns over different time horizons.
Alternative style premia are timeless and universal patterns that explain the cross-section or direction of asset returns and will explain these in the future. They arise from economic risk sharing mechanisms between market participants – such as value, carry and size premiums – and/or they constitute the outcome of persistent behavioral biases – such as price trends, quality vs junk spreads and occasional panics calling for dynamic protection.
Based on our fundamental research and understanding of the cause-effect linkages that drive alternative style premia returns, we create explicit trading rules that are robust and stress tested across time, countries and market environments. Above all, the implementation of all style premia follows a fully systematic process to eliminate emotions and biases, especially in high-stress situations.
When investing in alternative style premia, we balance risk taking across good, unrelated return streams to raise return-to-risk ratios and minimize the portfolio’s dependency on any one pattern, asset class, country, sector or instrument.
The pattern of relatively cheap assets to outperform relatively expensive ones
The pattern of higher-yielding assets to provide higher returns than lower-yielding assets
The pattern of an asset's recent performance to continue in the near future
The pattern of high-quality stocks to generate higher risk-adjusted returns than low-quality stocks
The pattern of smaller capitalized companies to outperform better know large-cap companies
The pattern of firms with conservative investment policies to outperform those with agressive ones.
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At record low or even negative interest rates, conventional portfolio protection such as passively holding large amounts in government bonds incurs a high opportunity costs. Moreover, the cushion that can be expected from bonds might not be enough to offset a future market crash. In addition, hedging a portfolio with put options is too costly due to ongoing losses from option premiums while timing the market is difficult to say the least. Hence, better ways to protect portfolios are needed.
To overcome the shortcomings of conventional portfolio protection, LGT has developed a dynamic protection strategy that can help investors to balance between participating in upside markets and mitigating downside risks. For over six years, the strategy delivered an equity put option like payoff in turbulent market periods without paying costly option premiums for protection during calm periods.
The LGT Dynamic Protection is well diversified across asset classes, signal sources and trading speeds. By investing only in liquid, financial futures traded on major global exchanges, the strategy can offer daily liquidity. Thanks to its dynamic risk allocation framework, the strategy acts as pressure valve in risky asset portfolio that switches exposures to a more defensive asset mix in turbulent periods and then back to a more aggressive asset mix during calm periods in lockstep with unfolding conditions.
For more information about the LGT Dynamic Protection strategy, please watch the video:
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We allocate risk top-down to over 20 different underlying risk premiums encompassing value, carry, trend, momentum, size, quality and investment factors across all major liquid global markets and asset classes. Our allocation framework rests on three pillars: First, we identify the characteristics of the various risk premiums in four different market regimes. Second, we obtain optimal portfolios based on resampling methodology using covariance matrices specific to the regime. Finally, we minimize downside risk for a given target return as opposed to taking volatility as proxy for risk of capital loss.
Individual risk premia are extracted using either cross-sectional or directional trading rules. For each premium, we identify the investment universe and the various constraints to extract it. Metrics and signals are tested systematically to determine the best and most robust way for the premium extraction. Depending on the risk premia, additional signals may dynamically adjust their risk budget usage to prevent adverse market conditions.
In May 2009, we have launched LGT Alpha Generix, our first alternative style premia strategy with the aim of emulating the generic strategies typically pursued by quantitative macro/CTA hedge funds. Over time, we gradually refined our approach and in April 2016, we have incepted a new alternative risk premia strategy. Because of its attractive risk-adjusted returns, the new LGT Risk Premia strategy forms today the core component of the Princely endowment’s allocation to liquid alternatives.
