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L. B. S. EH. M. A. N. R. O. T. H. E. R. Alternative Investments in Down-Cycle Markets. Ron Lubash. Februrary 4, 2001. Executive Summary.
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L B S EH M A N R O T H E R Alternative Investments in Down-Cycle Markets Ron Lubash Februrary 4, 2001
Executive Summary “The economic landscape has changed dramatically over the last few months and the local market now faces a new reality of significantly diminished prospects for future growth.” (Jerusalem Post, 01/03/2001) • Decreasing capital market growth • Decline in Israeli high-tech growth • Consumer slowdown in the U.S • Geo-Political instability Can investors increase their capital gains in such a down-cycle market?
Year 2000 – Highlights • Total of 384 IPOs with average first day return of 55.6%, compared to 466 IPOs in 1999 with first day return of 69.9% • Total capital raising in IPOs was $66 billion compared to $64.7 billion in 1999 • Major investments in telecom and computer software sectors • Scientific breakthroughs encouraged investment in the biotechnology sector • High returns on NIS investments Source: SDC
Year 2000 - Capital Markets Data in $ millions except numbers of IPOs $ Amount Raised Number of IPOs 250 200 150 100 50 0 NASDAQ NYSE LSE TOKYO 1999 2000 Source: Autex
Dow Jones Historical Index Down-cycle Period 12,000 2000Down-cycle 10,000 8,000 1987Down-cycle 6,000 4,000 1929Down-cycle 2,000 0 1928 1940 1952 1964 1976 1988 2000 Source: Dow Jones web Site
Decreasing expectations in the global high-tech industry lead to a decline in most major capital markets Indications of slower growth in the U.S Political turmoil and security concerns in Israel Deceleration in Israeli economy’s growth rate Year 2000 Wake Up Call
Year 2000 Decline in Major U.S Indices • On December 31, the NASDAQ was down 39.3% year-to-date, and Israeli technology stocks showed a 26% average drop • 2000 was a record year for Israeli high-tech’s public and private funding, but a poor period on a return on investment basis 30% 21% 16% 20% 11% 10% 9% 7% 6% 10% 2% 0% S&P -10% -4% S&P -6% MidCap -10% SmallCap -20% DJIA S&P 500 Russell 400 600 -30% 2000 -40% -39% -50% NASDAQ Jan 2001 2000
Lehman Brothers’ forecast for 2001 • Global growth will decrease from 3.9% to 3.4% • Deceleration of U.S growth • Expected drop in U.S consumer prices • Price targets for the S&P 500 and DJIA are 1,675 and 13,000 respectively • Expected returns are 21% for stocks, 8% for Lehman’s bond portfolio and 6% for cash • Technology sector should outperform the market over the next several years • Expected devaluation of up to 5% in NIS/$ - ($1= 4.22NIS) Source: Lehman Brothers` Research Reports
Asset Allocation for Year 2001 • Global asset allocation should consist of 60% Equities, 35% Bonds and 5% cash • Increasing exposure to Cyclical Stocks (Oil, Gas and Healthcare) • Though still underweight, increasing technology exposure, mainly in the under-valued telecom sector • Prospects of a stronger EURO hence, increasing exposure in continental Europe Source: Lehman Brothers` Research Reports
Dow Jones - 1929 Down-Cycle 1929Down-cycle 350 300 250 200 150 100 50 0 1896 1909 1922 1935 Source: Dow Jones web Site
Dow Jones – 1987 and 2000 Down-Cycles 1987Down-cycle 2000Down-cycle Source: Dow Jones web Site
General Trends in Down-Cycle Behaviour • Total of 14 down-cycles between the years 1944-1995 with an average downturn duration of 14 months and index decrease of 19.5% • An estimated 5% of stock assets were redeemed 6 weeks after the beginning of down-cycles • Shareholders’ response to a down-cycle period tend to be spread over time • Shareholders react moderately, enhancing their long-term investment objectives and horizons Note: Information includes 30 large Mutual funds which at that time held 80% of equity fund assets Source: Investment Company Institute -(Mutual Fund Shareholders Activity During U.S Stock Market Cycles 1944-1995)
Case Study - October 1987 • On average, monthly basis outflow was $7.5 billion • Approximately 70% of the outflow occurred on the first 3 days of down-cycle • Share redemption was mainly in the second half of October, representing an approximately $8.2 billion outflow • Only 5% of the stock-fund shareholders had redeemed shares during and since the market break • Net outflow moderated and tapered off in November and December 1987 Note: Information includes 30 large Mutual funds which at that time held 80% of equity fund assets Source:Investment Company Institute -(Mutual Fund Shareholders Activity During U.S Stock Market Cycles 1944-1995)
Return Per Asset Class (1926-1998) Highest Annual Return 150% Lowest Annual Return Average Return 100% 142.9% Small Company Stocks 54.0% 50% 40.4% Large Company Stocks 29.1% 14.7% 12.4% 11.2% 5.3% 5.3% 3.8% Annual Ranges of Return 0% 0.0% -5.1% -9.2% Long-Term Government Bonds Medium Term Government Bonds Cash -50% -43.3% -58.0% -100% Note: Each bar shows the range of annual total returns for each asset class over the period 1926-1998. Source: Ibbotson Associates.
Annual Returns By Region (1970-1998) 120% Average Return 100% 107.5% 80% Pacific 79.8% 60% 69.9% Europe 37.4% International 40% Annual Ranges of Returns 20% United States 12.7% 13.7% 13.5% 12.1% 0% -23.2% -22.8% -26.5% -20% -34.3% -40% Source: Ibbotson Associates (Highs and Low. From 1970-1998)
Lehman Brothers’ Investing Synergies • The goal of modern Portfolio theory is to maximize return at a given risk • An efficient portfolio will always have the highest expected return for a given level of risk An additional 5-10% of non-correlated alternative investments to the portfolio can substantially reduce the standard deviation on the expected return
Alternative Assets - Sector Overview • Alternative investments implement various financial instruments (such as: Hedging tools, Bonds, Options) • Over $12 billion were invested in European hedge funds in 1999 by European and US Institutions and high net worth individuals, bringing total assets to $28 billion • Close to 60 new European hedge funds were launched in 1999, bringing the total number of hedge funds to approximately 200 • The US market has over 2000 hedge funds. It is expected that over 300 funds will be launched in Europe over the next 3 years
Alternative Assets - Industry Overview Alternative Assets - A Growing Asset Class * - estimates Source: Hedge Fund Research, LLC
Alternative investment example: Lehman Brothers’ Offshore Multi-strategy Fund II
Major Financial Objectives • Take advantage of investment opportunities around the world • Implement a variety of financial instruments (such as: beta hedging, convertible arbitrage and event oriented analysis), in order to achieve a superior total return with moderate volatility over the long term • Employ a multi-manager investment approach • Leverage the capabilities of a global investment bank
Risk vs. Return Profile Lehman’s Offshore Multi-Strategy Fund II provides a substantially higher return compared to traditional fixed income investments at a given risk level S&P500 Multi Strategy Fund II Aggregate Lehman Bond Index
Conclusions • In a down-cycle market, an investor should strive for a diversified portfolio with a world wide perspective • Alternative investments opportunities are designed to outperform the market utilising various financial instruments • Today, more and more investors consider alternative investment opportunities as a material part in their portfolio