Paul Zummo highlights shifting macro conditions, selective opportunities in statistical arbitrage and thematic trades, and the growing role of SMAs amid increasing multi-strategy complexity.
The past several months have served as a “reminder” for JP Morgan Alternative Asset Management Chief Investment Officer and Co-Founder Paul Zummo. Zummo, who oversees allocating close to $50bn in external hedge fund solutions, notes this period has exposed the strengths and weaknesses across the industry, reinforcing the importance of discipline when constructing portfolios.
Despite recent turbulence, JP Morgan’s hedge fund returns have been firmly within expectations. Across their portfolios, exposure to discretionary macro, where hedge funds suffered huge losses, only makes up around a 1/5th of total AUM, a strict limit because of the cross-asset correlations that can arise when it makes up a large proportion of the portfolio.
For JP Morgan Alternative Asset Management, their hedge fund solutions have become attractive to institutional investors. A reversal of the 2010’s low-rate dynamic, where fixed income markets saw more capital flow. Zummo believes those income sources “will continue to be an important diversifier for people, but it’s not enough.” Hedge funds are increasingly viewed not only as a source of diversification but also to enhance portfolio returns, underscoring their growing importance in modern investment strategies. “What we’re seeing from clients is that they are saying. I’m enhancing my return over and above my prospects for fixed income. The environment for hedge funds post 2020 in terms of adding alpha and diversification is now extremely strong.”
Zummo believes that there are several compelling opportunities in the current environment. One area that is attracting significant attention is statistical arbitrage, Zummo explains, “Statistical arbitrage has been an area we’ve leaned into, which is certainly uncorrelated and alpha-generative. It is something where you can appreciate the structural growth and sophistication of the sector.”
Zummo is also keen to stress the importance of directional plays in addition to singular strategies, believing that understanding sectors and how they react in different regimes is “equally important” when making decisions. He is keen to highlight two thematic plays that JP Morgan Alternative Asset Management is currently attracted to: Japanese corporate governance and biotech. “These are strategies you can participate in from a beta standpoint, but if you are able to have the right activist or biotech manager, there are opportunities to double the return of the beta.”
An area of more bearishness is multi-strats and the role they can play within an investment portfolio. Caxton and several other large firms suffered significant losses as the Middle East conflict disrupted a range of trades, though many of those positions later recovered in April. Zummo notes that multi-strategy funds attract investors because of their various asset class offerings, but many do not fully understand their complexity or operations and therefore fail to maximise returns. “The reality is these are very sophisticated, complex organisations where it takes a tremendous amount of time to really dig in and understand capital allocations, risk exposures and risk approaches.” For JP Morgan Alternative Asset Management, the recent months have underscored the importance of having breadth in the due diligence process, across both managers and strategies.
SMAs have also grown significantly in recent years, offering investors greater customisation over liquidity, capital efficiency and investment operations. Zumo sees their role only increasing in the industry, as investors seek greater autonomy; SMAs offer compelling, portable alpha opportunities. “Investors are using hedge funds to create a portable alpha solutions. In portable alpha, you use the futures or swaps to get beta exposure, then allocate a certain percentage to the alpha source and manage the financing. SMAs are helpful in that regard.” However, Zummo is keen to stress that a downside of SMAs is the finite number of managers available that offer the investment solution. For quantitative managers, the access point is normally through an SMA, but if you were “just to focus on this area, you’d eliminate a sizeable percentage of the opportunity set, having a hybrid approach and the option to deploy capital in that direction is most important.”
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