Tactical Portfolios: Strategies and Tactics for Investing in Hedge Funds and Liquid Alternatives

CHAPTER 7

Investment Mechanics

In this chapter we look at how certain strategies can fit into a portfolio. This chapter serves as a further exploration of hedge fund strategies, to offer a deeper understanding of how an investor or financial advisor might structure a portfolio of hedge funds that is well diversified.

DIVERSIFICATION: REAL AND IMAGINED

We spoke a little bit about diversification in Chapter 1, and about how investors got burned in 2008 by allocating to multiple types of funds that essentially held the same positions. To review: Allocating to the largest blue chip equities mutual fund and the largest blue chip equity long short hedge fund or liquid alternative in many cases means doubling your equities exposure in the exact same positions with a little aid from the short book of the hedged side. This works out when markets are heading up, but when markets correct, and they always do, the downside of your portfolio will double.

Being diversified doesn't mean just allocating to more than one fund or holding more than one company in a given sector. As an investor or portfolio manager, those that truly understand diversification will be able to discern that if IBM goes down, there is also only so much upside one can gain from holding Microsoft and often they both go down together. In this instance, you might also see a drop in Lockheed Martin, which is a defense contractor and not necessarily a tech company, until you realize that the biggest employer of all three of ...