Alternatives
The ETF market continues to grow and mature by providing new funds for investors to reach their financial goals. BMO Global Asset Management sees more growth in the coming year, driven by more targeted funds that appeal to more sophisticated investors.
It sees the ETF market continuing to evolve and innovate in order to meet the growing demand for more sophisticated products in an ETF wrapper. It sees ETFs becoming the primary way for investors to get exposure to themes, trends, and investment opportunities. Further, there is intense competition among issuers to continue bringing new products onto the market, especially given first-mover advantages.
BMO is particularly bullish on structured outcome ETFs, which were created to help investors manage risk. It believes that investors in equity funds and short-term bond funds are exposed to volatility given the outperformance of megacap, technology stocks over the past year and uncertainty around the Fed’s rate cuts.
Structured outcome ETFs are one way that clients can remain invested while capping downside risk. Among these, buffer ETFs, which use options that protect against downside risk and cap upside potential, are becoming increasingly popular among advisors and investors. Notably, this type of protection was at one time only available to high net worth investors.
Finsum: BMO Asset Management conducted an overview of the ETF industry. It notes the constant innovation in the space, with the latest growth area being structured outcome ETFs, which are particularly useful in terms of reducing portfolio risk.
Investors are selling their private equity holdings at a discount on secondary markets in order to reduce exposure to the asset class. Last year, there was $112 billion in secondary market transactions, the second-highest since 2017. According to Jefferies, 99% of private equity transactions were made at or below net asset value last year. This is an increase from 95% and 73% in 2022 and 2021, respectively.
It’s a result of the depressed atmosphere for M&A and IPOs, which have been the typical path for private equity exits. However, these outlets have been offline for most of the past couple of years due to the Fed hiking rates to combat inflation.
Many of the sellers have been pension funds that are required to make regular payments to beneficiaries. Prior to this cycle, private equity was lauded for its steady returns and low volatility, leading pension funds to increase allocations from 8% in 2019 to 11% last year.
Private equity’s appeal has also dimmed, given that higher rates can be attained with fixed income and better liquidity. In contrast, private equity thrived when rates were low, as it led to robust M&A and IPO activity in addition to more generous multiples.
One silver lining is that as the Fed nears a pivot in its policy, there has been some narrowing of discounts. According to Jefferies, the average discount from net asset value has dropped from 13% to 9%.
Finsum: Many investors in private equity are exiting positions at a discount due to liquidity concerns. Now, some institutional investors are rethinking their decision to increase allocations.
In 2023, the global financial markets experienced an unprecedented surge known as the "everything" rally, marked by significant gains in various asset classes. Factors driving this unexpected shift included lower inflation, the resilience of the U.S. economy, and the anticipation of looser monetary policies and declining interest rates in the near future.
Looking forward, private markets are poised to offer competitive returns and diversification advantages compared to public markets, with private credit emerging as a particularly promising strategy amidst prevailing interest rate challenges. Investors are urged to carefully evaluate the risks associated with private markets and consider their potential impact on portfolio performance.
According to JPMorgan, exploring alternative strategies for 2024, such as private equity, real estate, infrastructure, and secondary markets, presents opportunities for growth and portfolio enhancement, contingent upon thorough due diligence and selective fund allocation.
Finsum: As the Fed takes its foot off the gas pedal alts might in the biggest position to rally in 2024
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Many investors may be looking to diversify their portfolios given recent gains in equities. While there are many options, leveraged index annuities can reduce portfolio risk while still offering some growth potential.
Leveraged index annuities are typically bought upfront with a single payment. The interest earned on these products is not taxable until it is withdrawn, which also makes them an effective vehicle for saving.
These annuities are leveraged to a major market index like the S&P 500. Interest is earned when the underlying index appreciates; however, there is no loss of principal in the event that the index suffers losses.
The tradeoff is that interest earned on the annuity is capped depending on the terms of the annuity agreement. For instance, the maximum earnable rate of interest could be set at 12%. This means that in a year like 2023, when the S&P 500 was up 24%, the annuity owner’s earned interest would be capped at 12%. On the other hand, the annuity owner would have seen no loss of principal when the S&P 500 was down 19% in the previous year.
This combination makes leveraged index annuities ideal for investors who want to diversify and de-risk their portfolios while still growing their wealth.
Finsum: Leveraged index annuities are a way for investors to reduce risk and increase diversification while still allowing for appreciation.
According to Bloomberg senior ETF analyst Eric Balchunas, there is only a 25% chance that the SEC approves a spot ethereum ETF. He points to the lack of SEC engagement on the topic and the absence of any positive signs or chatter on the subject, which is a departure from the lead-up to bitcoin’s approval. Balchunas believes this lack of engagement is ‘tactical’ rather than ‘procrastination’.
The crux of the issue is how ethereum should be classified. There are indications that the SEC is leaning towards treating it like a security based on subpoenas to crypto companies that have interacted with the Ethereum Foundation.
However, there are some dissenting voices who are more optimistic about approval. Craig Salm, Grayscale’s Chief Legal Officer, says the SEC’s reticence is due to most issues already being cleared up during the bitcoin ETF approval process. He believes both ETFs are nearly identical, except for the underlying asset. He also pointed to the approval of an ethereum futures ETF and its classification as a commodity future as a favorable sign.
Currently, several asset managers have filed for approval for an ethereum ETF, including Blackrock, VanEck, ARK 21Shares, Fidelity, Invesco Galaxy, Grayscale, Franklin Templeton, and Hashdex. The most immediate deadline is May 23 for VanEck.
Finsum: Over the next couple of months, the SEC will decide on an ethereum ETF. Reading the tea leaves, Bloomberg’s Eric Balchunas is not optimistic that it will be approved.
Robert Mitchnick, Blackrock’s digital asset lead, believes that bitcoin is more like ‘digital gold’ rather than a ‘risk-on’ asset, despite its strong correlation to equities in recent years. Throughout bitcoin’s existence, there has been a constant debate about its true nature. Some argue that bitcoin is like gold given that there is a fixed supply, which means that it should provide protection against inflation.
While this may be true in theory, in reality, bitcoin has largely moved in the same direction as equities, which undermines the argument that it offers diversification. In 2022, bitcoin tumbled as the world dealt with the highest levels of inflation in decades. Notably, equities were also down 25% in 2022. In the following year, as equity markets made new highs, bitcoin also followed and made new highs as well.
Despite this relationship, Mitchnik believes that historically, bitcoin has demonstrated very little correlation to stocks. He attributes the recent rally to excitement around the launch of bitcoin ETFs in the US. In terms of allocation, he recommends between 1 and 3% for investors to provide diversification and differentiated returns. The argument about bitcoin’s nature is germane for investors who want to understand whether it will make their portfolio more risky or more diversified.
Finsum: There are two camps when it comes to bitcoin. One sees bitcoin as an asset that is closely correlated to equities; while the other believes that bitcoin is more like gold and can help diversify portfolios.