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A new research paper from Edhec shows how the alpha benefits of using fixed-income derivatives can be successfully transported to a core investor portfolio.

The paper 'From Delivering to the Packaging of Alpha', is based on research recently carried out by Lionel Martellini, Philippe Malaise and Noël Amenc of the Edhec Risk and Asset Management Research Centre. The research was supported by Eurex.

The paper emphasises the need for the hedge fund industry to adopt a consumer (investor)-driven approach, as opposed to the current producer (manager) perspective. The authors say this requirement is going to lead to the emergence of new types of offering with characteristics better suited to the expectations of institutional investors.

As an example, the authors present a series of illustrations in a fixed-income environment suggesting that futures and options could be employed towards the design of products, allowing for the transformation of raw alpha into portable alpha, which can be used within the context of a modern core-satellite approach.

A dynamic, non-linear version of this approach is also highlighted as it enables institutional investors to benefit from a dissymmetric control of tracking error risk and greater access to the potential advantages of abnormal returns generated by hedge funds without some of their associated risks.

In particular, the authors outline the benefits of bond maturity rotation strategies for European fixed-income investors. Using data for two European broad-based bond futures, the Euro Bund and Euro Schatz futures, they show how significant out-performance can be generated from systematic maturity rotation strategies.

They also demonstrate that the abnormal performance generated from maturity rotation strategies can be transported to a core portfolio invested in a broad-based index (possibly through a derivatives position) such as a medium-term bond index.

In other words, the alpha benefits can be successfully transported to a core portfolio reflecting the strategic asset allocation of the investor.

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