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The Paper Trail: Dry Powder

April was a pretty eventful month:

  • The first total solar eclipse since 2017 took place on April 8th. 
  • Bitcoin's underwent its fourth "halving" event, demonstrating its programmatic and fixed supply.
  • The UConn men's basketball team won back-to-back NCAA championships,  the first team to do so since Florida in 2006 and 2007.
  • Scottie Scheffler took home the green jacket in this year's Masters Tournament. 
  • And last but not least, the 40th anniversary of WWE's WrestleMania took place at Lincoln Financial Field in Philadelphia, entertaining millions of fans worldwide (and yes, yours truly was there to experience it live.)

On that note, let's jump off the top rope and right into this month's edition of The Paper Trail!

April's research roundup features:

  • Generative AI and systematic investing
  • Rightsizing an allocation to trend following
  • Fixed income performance in election years
  • Hedge funds and rising interest rates
  • Private equity "dry powder"
  • Intangible value investing in international stocks
  • The limitations of valuation multiples
  • Family office asset allocation
  • A framework for allocating to cash
  • And much more!

“bps” (reading time < 10 minutes)

Will generative AI become part of the systematic investment manager's toolkit?

"The signal-to-noise ratio in forecasting asset returns (and/or various related KPIs) tends to be significantly lower than in many other predictive contexts, the features and rules of the market environment are in constant flux, and players rapidly adapt their behavior in response to other participants. Such characteristics put a premium on judicious engineering, including methods of finding the “right fit” (to avoid both over- and under-fitting), design of input features, optimal use of the available data, etc. Successful application of generative AI in systematic investing, therefore, requires significant investment in specialized expertise."


Generative AI in Systematic Investing: The Sizzle and the Steak (Acadian Asset Management)

Is there a "right" allocation to trend following in a multi-asset portfolio?

"Real-world constraints often predicate that trend-following may not get the allocations our two measures of optimal, namely Sharpe ratio and drawdown mitigation, might suggest. And we are not advocating that it should either. Instead, we hope the takeaway of this paper is that investors and allocators give trend-following serious consideration for inclusion in portfolios in more meaningful quantities than it historically has been."


Honey, I Shrunk the Trend-Following (Man Group)

Are bonds a good bet during election years?

"Since 1986, in instances where the U.S. Economic Policy Uncertainty Index was more than one standard deviation above its mean, returns for U.S. Treasury securities and investment-grade corporate bonds were, on average, more than 10 percentage points greater than equities, which typically experienced negative returns."


2024 Election Uncertainty Could Drive Fixed-Income Outperformance (Guggenheim Investments)

Do hedge funds benefit from rising interest rates?

"The benefits stem from the opportunities that arise in higher-rate environments and the increased potential for earning returns on cash and cash-equivalent positions. For example, for the first time since 2008, the short rebate received by long/short equity managers exceeded the equity dividend yield. Another benefit is that hedge funds that utilize derivatives, such as global macro, have greater leverage efficiency. If hedge funds can borrow at rates lower than the returns they generate from their investments (CAPM), the spread between borrowing costs and investment returns can be more favorable if the fund’s investments are in assets that appreciate or yield more as rates rise."

FEG Insight: Hedging Against the Tide (Fund Evaluation Group)

Are professional forecasters too sanguine about future inflation and growth expectations?

"Historical distributions can’t tell us whether or when rapid disinflation or runaway growth will occur. But they remind us that such outcomes have happened before, even during periods preceded by notably subdued macroeconomic volatility, and with much greater frequency than recent forecasts might suggest."


Tunnel Vision: 2024 Inflation and Growth Forecasts in Historical Perspective (D E Shaw & Co)

“pieces” (reading time > 10 minutes)

Should private equity investors be concerned with the level of "dry powder" waiting to be deployed?

"Dry powder inventory—the amount of capital available to GPs expressed as a multiple of annual deployment—increased for the second consecutive year in PE, as new commitments continued to outpace deal activity. Inventory sat at 1.6 years in 2023, up markedly from the 0.9 years recorded at the end of 2021 but still within the historical range."


Global Private Markets Review 2024 (McKinsey & Company)

Can the disappointing performance of international stocks since 2010 be explained by underinvestment in intangible assets?

"Fortunately, the international stock index is quite diverse, with significant dispersion across countries and firms. While its average holding may be trapped in the industrial age, the index also harbors a promising “right tail” of intangible-rich firms, many of which boast attractive valuations."


International Intangible Value (Sparkline Capital)

Is now the right time to be investing in venture capital?

"While we do not know exactly what the future holds, AI-powered software will undoubtedly be a large part of a very different future. This, combined with lower, quality-adjusted valuations, makes 2024 an incredibly exciting time to deploy capital."


Venture Capital: It’s a Great Time to be Investing (Industry Ventures)

Are valuation multiples losing their relevance?

"None of this suggests investors should ignore multiples altogether. Indeed, there may be some value in combining multiples. But the main point is that multiples are getting worse at reflecting the economic picture they are supposed to capture. A blind deference to multiples without understanding their limitations can severely hamper the effectiveness of an investment process."


Valuation Multiples: What They Miss, Why They Differ, and the Link to Fundamentals (Counterpoint Global)

Is there a typical family office asset allocation?

"Objectives differ: a family office may invest to pass on family wealth, to fund philanthropic giving, to diversify wealth from the family business, or a host of other reasons. Time horizons and risk appetite can vary significantly: one family office may look several generations ahead and be prepared to assume high risk, another may be disbursing a large amount of money today and be focused on income and capital preservation. And values are personal: one family office may seek out market signals for where there are shortages of capital and return opportunities, another may seek out shortages of capital caused by market failures; one may regard sustainability as a risk-management consideration and another as an impact strategy, while many others will see it as both."


Family Offices 2024: Adjusting to Post-Inflation Markets (Neuberger Berman)

How should investors think about cash as part of their overall asset allocation?

"From 1960 through 2022, in fact, cash produced an annualized real return of just 0.7%, compared with 6.3% for stocks and 2.0% for bonds. Put another way, cash has barely kept up with inflation, a fact that would seem to create a significant hurdle to including cash as part of a strategic asset allocation."


A framework for allocating to cash: risk, horizon, and funding level (Vanguard)

About the author

Phil Huber, CFA, CFP®

Phil is the Head of Portfolio Solutions for Cliffwater, a leading alternative investment adviser and fund manager. Prior to joining Cliffwater in 2024, Phil was the Chief Investment Officer for Savant Wealth Management, a multi-billion dollar wealth management firm. Phil has been involved in the financial services industry since 2007. He earned a bachelor’s degree in finance from the Kelley School of Business at Indiana University. He is a member of the CFA Society of Chicago. More about me here. Twitter: @bpsandpieces

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