Traditional And Alternative Boundaries Blur
Tuesday, May 25, 2010

In the wake of historic market losses and epic scandals, a restless and empowered investor base is demanding greater transparency and liquidity from managers, while focusing on absolute returns and uncorrelated investment strategies, according to new research.

This combination of factors is driving convergence of traditional and alternative investment products, concludes a white paper released by SEI in collaboration with Strategic Insight.

The paper, entitled Exotic to Mainstream: Growth of Alternative Mutual Funds in the United States and Europe, evaluates the opportunities and challenges managers face when launching and distributing alternative investment strategies in a registered mutual fund or UCITS format, as the trend toward "mainstream alternatives" gains significant momentum.

The report says that for alternative firms facing a predominantly institutional investor base, offering their strategies in a mutual fund structure opens up a substantially broader and more diversified market opportunity. Meanwhile, traditional managers also see an opportunity for increased fund flows as well as potentially higher margin products and revenue diversification.

According to the paper, however, managers must initially determine whether offering an alternative mutual fund can be accommodated within their investment parameters and whether it fits their branding and long-term business strategy. Managers must also address key regulatory, operational and distribution considerations before diving into these new investment products.

"The balance of power may have shifted in this 'Era of the Investor', but if managers position themselves properly, convergence may offer an opportunity for them," said Phil Masterson, Managing Director for SEI's Investment Manager Services division. "Alternative mutual funds create new market opportunities, new revenue opportunities, and new product offerings that can meet the evolving needs of investors in today's environment."

The report noted that a diverse group of strategies and managers are already experiencing success with these products in the US and Europe. Successful strategies include long/short, global tactical asset allocation, volatility arbitrage, and managed futures. Sponsors are geographically dispersed across the United Kingdom, France, Sweden, Switzerland, and the US

According to the paper, while it's difficult to precisely measure the market opportunity for these vehicles, the potential appears to be significant, as evidenced by intermediaries modifying their model portfolios and recommended lists to accommodate alternatives - typically at the expense of the equity portion of the portfolios. In 2009, investors poured more than USD110 billion into alternative mutual funds, with the largest flows going into long/short, market-neutral, commodity, and currency funds. A more detailed breakdown is as follows:

• Approximately two-thirds of these net new flows (USD75bn) went into alternative-style US mutual funds and ETFs, and one-third (USD35bn) into European mutual funds (UCITS) and ETFs.
• Nearly 5% of US retail alternative mutual funds and ETFs had net inflows of USD1bn or more in 2009; in contrast, approximately 3% of all traditional long-term US mutual funds and ETFs had inflows exceeding USD1bn.