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Edwin Conway, Managing Director Head of BlackRock U.S. and Canada Institutional Client Business
& Global Head of BlackRock Alternatives Specialists
Harnessing the Full Potential of Alternative Strategies
Topics
1. Market Context
2. The Next Frontier of Alternative Investing
Market context
Proprietary and Confidential - This material may not be distributed beyond its intended audience
Investors are increasingly challenged to meet their return needs
1. BlackRock Investment Institute, Barclays, Thomson Reuters (as of June 2014). The bars show market capitalization weights of assets with an average annual yield of over 4% in a select universe that represents about 70% of the Barclays Multiverse Bond Index. Index performance is shown for illustrative purposes only. It is not possible to invest directly in an index. Past performance is not indicative of future returns
2. Morgan Stanley Research, Dealogic, Haver, OECD, DMO, US Bureau of Public Debt, ECB, Fed, BoE, SIFMA, TREPP, January 2015
Equity investors are vulnerable to the business cycle
Index Max Draw-down Peak Trough Length
S&P 500 -53%
October 2007
February 2009 16 monthsMSCI World -55%
MSCI EM -63%
Equity valuations are above their historical averages
Global rates continue to be at historical lows1 Fixed income supply is dwindling across the globe2
0.01.02.03.04.05.06.0
2006 2008 2010 2012 2014US UK Germany Japan
(1,000)
-
1,000
2,000
3,000
4,000
1980 1985 1990 1995 2000 2005 2010 2015
USD
bill
ions
US Europe UK Japan Total
Percent
12
16
20
24
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Rolling Average MSCI Rolling Average S&P500MSCI World Mean S&P500 Mean
Rolling average P/E ratios for public equities
4
Proprietary and Confidential - This material may not be distributed beyond its intended audience
Diversification implies looking beyond traditional asset classes
Over time equities and fixed income exhibit low to moderate correlation…
US Equities
Global Equities
EM Equities
Eur. Equities
Global Corp Credit
Global High Yield
T-Bills LIBOR
US Equities 1.00
Global Equities 0.97 1.00
EM Equities 0.77 0.86 1.00
Eur. Equities 0.83 0.86 0.71 1.00
Global Corp. Credit 0.22 0.30 0.34 0.17 1.00
Global High Yield 0.67 0.74 0.76 0.59 0.60 1.00
T-Bills -0.13 -0.13 -0.09 -0.08 -0.03 -0.13 1.00
LIBOR -0.16 -0.15 -0.08 -0.09 -0.01 -0.15 0.95 1.00
Sources: BlackRock (as of Jan 2015). Notes: Correlation calculated from monthly returns from January 2000 through December 2015. Indices referenced include S&P 500 (US equities), MSCI World Index (Global Equities), MSCI Emerging Markets Index (EM equities), Euro STOXX 50 (European equities), Barclays Global Aggregate Corporate Total Return Index Value Hedged USD (global corporate credit), Barclays Global High Yield Total Return Index Value Hedged USD (global high yield), BofA ML 3 Month Treasury Index (t bills) and US Cash Indices LIBOR Total Return 3 Month (LIBOR).
…but those correlations are not stable and spike during periods of economic stress
r = 0.5
r = -0.6
r = 0.7
-1
-0.5
0
0.5
1
Jan-01 Jan-03 Jan-05 Jan-07 Jan-09 Jan-11 Jan-13 Jan-15
Rolling 12-Month Correlation: Global Equities & Global CorporatesHigh correlation (0.75 < r < 1.00)
Moderate correlation (0.50 < r < 0.75)
Low correlation (0.00 < r < 0.50)
Negatively correlated (-0.25 < r < 0)
r = correlation
5
Proprietary and Confidential - This material may not be distributed beyond its intended audience
Source: BLK SPM, from Towers Watson survey, client interviews, BLK team materials, Deutsche Bank survey, CitiBank, Pyramis Survey. For illustrative purposes only. It serves as a general summary, is not exhaustive and should not be construed as investment advice.
Alternative investments can help achieve various outcomes
Desired Outcomes
Asset Characteristic
Absolute Return /
Hedge Funds Private Equity
Illiquid & Opportunistic
Credit
Real Estate(private equity
& debt)
Infrastructure(private equity
& debt)
Income Stable cash flows
Growth High target returns
Inflation Protection
Inflation-linked cash flows
Diversification Low correlation
Reduce vol / tail risk Low volatility
6
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Considerations for implementing an Alternative investments portfolio The challenges facing alternative investment managers are real, but the current landscape presents opportunities to deliver alpha to clients
• Proven record of performance in various market environments
Alignment, transparency, and implementation within risk parameters
A solutions approach that can deliver the client's desired outcome
Harder to add uncorrelated alpha
Higher and rising operating cost
Greater regulation / capital requirements
Increased demand for institutional quality
products
Managers need investment knowledge, market insights, and trading relationships to source investments and add alpha
Manager / client interests can be at odds as the client seeks to add alpha and the manager seeks asset scale to cover its operating costs
New regulations challenged traditional capital suppliers (banks), stimulating investment from large pools of money (asset managers)
Alternatives are being used for portfolio construction and across a broader client base, including pensions and sovereign wealth funds
Requirements for success given these challenges and opportunities
1
2
3
7
The next frontier of alternative investing
1. Real Assets
Proprietary and Confidential - This material may not be distributed beyond its intended audience
Investors are reportedly increasing allocations to real assets% of total survey respondents invested in real assets by sector1
51%
7%
34%
71%
1%
25%
48%
6%
34%
No Change
Decrease the number of employees dedicated to realassets
Increase the number of employees dedicated to realassets
EMEA
Americas
APAC
1 Please indicate the approximate proportion of your company’s total portfolio that is allocated to each of the following real asset types : Real Estate Debt; Private Real Estate Equity; Public Real Estate Securities; Infrastructure Debt; Infrastructure Equity; Commodities (energy/oil, metals, agricultural); Timber; Farmland. (Enter percentage allocation. Totals should not add up to 100%). Information derived from participant’s self-reported investment characteristics (including current organization’s investment and portfolio description) and responses to survey questions. 2 Q5a, Q12a, Q18a:How has your company’s allocation to real asset investments changed (relative to its current allocation) over the past three years, and do you expect it to change over the next 18 months? Participants indicated their re-allocation plans by selecting: Substantial decrease (10%+) Moderate decrease, No significant change, Moderate increase, Substantial increase (10%+)3 Q3b Which of the following best describes the most likely changes in your company’s organizational structure for investing in real assets over the next 18 months? ( Participants answered by indicating Increase, decrease, no change, will have no employees dedicated to real assets)
Organizational structure changes to incorporate real assets into portfolios3
Planning to increase allocations in all sectors2
29%
66%
96%
Commodities
Infrastructure
Real Estate
10
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Key drivers for investing in real assets
Key drivers for investing in real assets relate to current market conditions
22%
19%
11%
22%
37%
70%
52%
29%
23%
22%
31%
43%
49%
55%
17%
23%
24%
24%
38%
63%
63%
Cyclical adjustment
Inflation protection
Portfolio rebalancing
Diversify overall portfolio
Address long-duration liabilities
Replace or enhance currentincome
Increase return
Macro environmentconsiderations
Real Estate Infrastructure CommoditiesQ6/Q13/Q19: You indicated that your company expects to increase its [real estate / infrastructure / commodities] investment allocation. Please indicate the most important factors motivating this change (Participants answered by selecting up to three of the options listed above). Cyclical adjustment was only asked for Q19.
11
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The benefits of investing in infrastructure
Infrastructure can provide solutions that investors seek in their portfolios► Structure of asset class creates consistent returns and enables long-term investors to tailor allocations to achieve desired outcomes► Emerging opportunity for investors to get access to a less traditional asset class► Uncorrelated risk/return targets optimize a client’s portfolio
1. Private Infra Debt is private infrastructure debt transactions rated BBB or BBB- (Private Infra Debt spread data obtained via Bloomberg, Dealogic, InfraNews, and Market Participants); Public Corp Index is Barclays 1% Cap Corporate index customized for BBB/BBB- rating and average life of private infrastructure debt transactions; Public Corp (Infra) Index is Barclays 1% Cap Corporate index that includes corporate issuers in Utilities, Transportation and Energy sectors having maturities between 9 and 20 years and includes only BBB/BBB- issues. Data as of December 2014
2. Moody’s “Default and Recovery Rates for Project Finance Bank Loans 1983-2011 Addendum” 3. Moody’s “Annual Default Study: Corporate Default and Recovery Rates, 1920-2011”; Corporate default rates based on 1983–2011 and recovery rates based on 1987-2011 4. Based on Moody’s definition of “Broad Infrastructure”, including social and transport assets as well as transmission and distribution financings. Data shown is not an indication of future projections. Past performance is not indicative of
future returns.
What can infrastructure provide?
Income — Stable income aligned with clients’ focus on long-term liabilities
Growth — Increased opportunities for institutional capital deployment as traditional lenders are constrained by the new regulatory environment
Diversification — Low correlation with traditional asset classes improving risk/return profile
Lower defaults and higher recovery rates1,2,3,4
0%
20%
40%
60%
80%
100%
3.4%
3.6%
3.8%
4.0%
4.2%
4.4%
4.6%
4.8%
BroadInfrastructure
(OECD)
Baa CorporateBonds
BroadInfrastructure
(OECD)
Senior SecuredBonds
Recovery rate
Def
ault
rate
12
Proprietary and Confidential - This material may not be distributed beyond its intended audience
Global real estate universe is large and growing
At $12.9 trillion, global real estate represents ~8% of global investment universe1. DTZ Research; four quadrants represent capitalization of underlying “invested” real estate market; as of June 2014. "Invested" = investment-grade commercial real estate held by different investor groups; defined as total value of CRE debt outstanding
plus total value of equity in CRE holdings.2. DTZ Research, forecast by BlackRock. Forecast based on BCG’s Global Wealth Survey 2014 (5.5% CAGR of global wealth) and real estate allocations going from 8.2% to 10%. “Global wealth” includes cash and deposits, money market funds, and
listed securities held either directly or indirectly through managed investments or life and pension assets, and other onshore and offshore assets. It excludes investors’ own businesses, any real estate, and luxury goods. Global wealth reflects total financial assets across all households. Unless stated otherwise, wealth figures and percentage changes are based on local totals that were converted to U.S. dollars using year-end 2013 exchange rates for all years in order to exclude the effect of fluctuating exchange rates.
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0% 5% 10% 15%
Global REITs
US Core RE
US RE Debt
US CMBS*
Global Equities
Global Bonds
Treasuries
Inflation
Total Return
5-Yr
10-Yr
20-Yr
Real estate returns have historically been attractive1
Americas EMEA APAC
Equity Debt
Priv
ate
Publ
ic $1.0 tn
$4.6 tn $5.8 tn
$1.5 tn
REITs and other publicly traded vehicles
Direct private real estate investments (equity)
Commercial mortgage backed securities and other similar
vehicles
Whole loan mortgages and high-yield/ mezz debt
$12.9 trillion invested in global real estate market 1
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6.5%
6.6%
6.7%
6.8%
6.9%
7.0%
8.5% 9.5% 10.5% 11.5% 12.5% 13.5% 14.5% 15.5% 16.5% 17.5%
Tota
l ret
urn
Standard deviation
EquityFixed IncomeUS Private EQ REGlobal Private EQ RE Ex US
Hypothetical Portfolio
Global real estate portfolios benefit from powerful diversification effect
Favorable risk-adjusted returns for global portfolio
+7.5% US RE
+7.5% Global Ex US RE
Traditional 60% EQ / 40% FI
Source: BlackRock, NCREIF, IPD, Barclays, MSCI, Standard & Poor’s; based on historical total returns in US$, 1993-2013; IPD Global Ex US is capital value-weighted average of IPD country returns; as of December 31, 2013Past performance is not indicative of future results. Index performance is shown for illustrative purposes only. It is not possible to invest directly in an index
14
Stable income returns
-25%
-20%
-15%
-10%
-5%
0%
5%
10%
15%
20%
25%
81 83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 15
Tota
l Ret
urn
Income return Appreciation Return
Chart1
Equity
0.6
Sales
0.4
Sheet1
Sales
Fixed Income0.4
Equity0.6
To resize chart data range, drag lower right corner of range.
Chart1
Fixed Income
Equity
US Real Estate
Sales
0.36
0.54
0.1
Sheet1
Sales
Fixed Income0.36
Equity0.54
US Real Estate0.1
To resize chart data range, drag lower right corner of range.
Chart1
Fixed Income
Equity
US RE
Global RE Ex US
Sales
0.32
0.48
0.1
0.1
Sheet1
Sales
Fixed Income0.32
Equity0.48
US RE0.1
Global RE Ex US0.1
To resize chart data range, drag lower right corner of range.
2. Systematic Investing
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Factor-based investment strategies
Factor-based strategies target broad, persistent drivers of return, taking advantage of economic insights, diversification, and efficient execution — opportunities that may lead to improved investor outcomes
► Looks beyond traditional asset class labels to directly target true economic drivers of returns
► Common framework provides more accurate and intuitive risk management
► Greater diversification and a higher probability of achieving investment goals
Factor-based investing is more than investing in factors: at its best, it is a powerful and empowering management philosophy
► Simple: Translates the complex to the intuitive
► Unifying: Provides a common language and culture, enabling consistent management of assets, liabilities and the enterprise
► Flexible: Allows for more flexibility in asset allocation and manager selection decisions
There has been a radical increase in the amount of information available for investment decision making in recent decades. We believe active managers need to evolve investment processes to capture alpha in today’s market
► Must advance infrastructure, people and technology
16
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17%
10%5%
11%
11%
24%
22%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
-6%
-3%
0%
3%
6%
9%
12%
15%
Rates
Diversification
Total Risk: 7.7%
Asset based views of portfolios obscure underlying drivers of risk► In the sample portfolio below, the portfolio appears well diversified across many asset classes, with only 32% invested in
global equities► Examining risk along factor dimensions reveals that economic risk dominates, contributing 70% of portfolio risk
Factor investing looks through asset class labels
Capital Allocation by Asset Class
Equity: 32%
Factor Allocation
Economic Growth: ~70%
For illustrative purposes only. Calculations performed using the BlackRock Solutions risk model and exposures as of April 30, 2015; Monthly Constant Weighted (MTC model) with 102 monthly observations; Macro Factor scheme.
Credit
FX
US Equity
Intl Equity
EM Equity
High Yield
EM Bonds
Long Treasuries
Cash
17
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Finding alpha is increasingly challenging in today’s market environment
Image by The Centre for Learning and Teaching, Vocational Training Council (Hong Kong)
18
“ 90% of the data in the world today has been created in the last 2 years” – IBM 2015
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► Employee sentiment can be measured from anonymous social media postings► Employee’s view on culture, management, opportunities► Positive employee sentiment leads to higher productivity► Happy employees are more productive employees!
New ways to answer old questions: Management Quality
Business
Customers Employees
The Virtuous Cycle of Positive Sentiment
Source: BlackRock and Glassdoor.com, illustrative purposes only
19
3. Custom / Opportunistic Solutions
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Case Study: Canadian Pension Plan
Direct Opportunistic Portfolio• Pursuing a range of opportunistic strategies
• Sizable allocation committed over 36 month drawdown period
• Range of alternative investments targeting IRRs from 8% to 18%
• Broad and flexible scope of mandate
• Seeking a concentrated portfolio with position sizes in the 5% – 10% range
• 2 to 5 year weighted average life
• No asset class or strategy exclusions aside from two specific exceptions
• Large Canadian pension plan
• Alternatives strategy: Goal to capture returns through various liquid and illiquid investment strategies
• Key strengths: Talented investment professionals, deep relationships with market participants and robust understanding of capital markets and investment fundamentals
Client Profile
Client Need• Source and capitalize on direct opportunistic investments that can’t be sourced independently
• Seek partner with point of access to many market participants
• Find diversifier to existing, primarily liquid strategies: investments that are complementary to existing mandates
For illustrative purposes only. There is no guarantee that every solution managed will achieve the same level of diversification as shown above. Each solution’s allocation strategies and targets depend on a variety of factors, including prevailing market conditions and investment availability. There is no guarantee that they will be achieved and any particular investment may not meet the target criteria.
21
SolutionKnowledge Sharing
• Highly collaborative, interactive partnership
• BlackRock provides extensive information on existing and potential investment opportunities throughout life of fund
• Investment ideas supported by robust portfolio risk analytics
Transparency • Comprehensive reporting and portfolio analysis
• Robust new investment reports paired with client veto right to ensure alignment of interests
4. Hedge Fund Solutions
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4.00%
6.00%
8.00%
10.00%
12.00%
14.00%
16.00%
4.00% 6.00% 8.00% 10.00% 12.00% 14.00% 16.00%
Hedge funds provide diversification benefits to traditional portfolios
Source: eVestment: Equity: S&P 500 Index; Fixed Income: Barclays Global Aggregate; Hedge Funds: Q-BLK Appreciation Composite (“QAC (net)”). Data is for time period: Aug 1995 – Jun 2015. Indices have no fees, are unmanaged, and are used for illustrative purposes only. Indices are not intended to be indicative of any fund’s performance. It is not possible to invest directly in an index. Past performance is not an indication of future results. The definitions and disclosures appearing at the end of this document are an integral part of this presentation and should be read in their entirety for a complete understanding of the information contained herein.
Improving risk-adjusted returns, Aug 1995 – Jun 2015
Hedge funds can exhibit strong risk-adjusted returns, with low beta to traditional asset classes
Return Standard Deviation Sharpe Ratio Portfolio
100% Hedge Funds 8.33% 4.80% 1.18
Traditional + HF:20% Hedge Funds
45% Equity35% Fixed Income
7.59% 7.88% 0.63
Traditional: 60% Equity
40% Fixed Income7.48% 9.68% 0.50
100% Equity 8.77% 15.20% 0.40 100%
60%40%
35%
20%45%
100%
Fixed IncomeHedge funds Equity
Standard deviation (%)
Ann
ualiz
ed re
turn
(%)
23
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Hedge funds are complementary to traditional portfolios
Optimal hedge fund portfolios seek to emphasize idiosyncratic (e.g., security-specific) sources of return while minimizing broad market risks
Approach
Idiosyncratic (e.g. deal-specific)Approval of M&A deal, plan of reorganization, model risks
Emphasize idiosyncratic returnsAffects specific positions, can have
significant impact on a portfolio
Sector/styleEquity volatility, liquidity, corporate basis, sovereign risks, industries, market capitalization
Diversify sector/style risks Affects specific strategies in
various magnitudes
MarketEquity market movement,interest rates, foreign currency,commodity prices
Mitigate market risksBroad overarching market
risks, which a hedge fund seeks to mitigateTraditional Portfolios
Hedge Fund Portfolios
Beta
Alph
a
Sources of return
24
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Case study: custom emerging manager fund
Investor Background:
• A large Canadian public pension fund
• Existing hedge fund investments were all direct investments
• BlackRock was engaged to discuss its experience investing in early stage hedge funds
• Prospect was interviewing hedge fund manager “seeding” platforms to supplement their growing direct platform
• Sought a partner with expertise investing in emerging hedge fund managers and strategies
Observations & Analysis:
• Preferred a highly interactive partnership that included information exchange, education and active dialogue
• BlackRock sought to design a solution tailored to the client’s specific investment goals while leveraging its long emerging manager investment experience
Custom Solution:
• The custom fund invests in less than 10 “Emerging Managers” (i.e., funds with less than six months of performance history or less than $1 billion in capital)
• A drawdown structure to opportunistically add managers over a set period
• BlackRock offered a comprehensive reporting package aggregating risks at the underlying manager level and fund of hedge funds level
• Ongoing education and information sharing is a significant aspect of the relationship
This example is shown for illustrative purposes only and there is no guarantee that every solution managed by BlackRock will achieve the same level of diversification as shown above. Each solution’s allocation strategies and targets depend upon a variety of factors, including prevailing market conditions and investment availability. There is no guarantee that they will be achieved and any particular investment may not meet the target criteria.
25
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DisclaimerThis material is intended for accredited investors in Canada only. The information and opinions herein are provided for informational purposes only, are subject to change and should not be relied upon as the basis for your investment decisions. Past performance is not necessarily indicative of future performance. This document is not and should not be construed as a solicitation or offering of units of any fund or other security in any jurisdiction. No part of this material may be reproduced in any manner without the prior written permission of BlackRock Asset Management Canada Limited.
© 2015 BlackRock Asset Management Canada Limited. All rights reserved. BLACKROCK is a registered trademark of BlackRock Inc. or its subsidiaries in the United States and elsewhere. All other trademarks are those of their respective owners.
Slide Number 1TopicsMarket context Investors are increasingly challenged to meet their return needs Diversification implies looking beyond traditional asset classes Alternative investments can help achieve various outcomesConsiderations for implementing an Alternative investments portfolio The next frontier of alternative investing1. Real AssetsInvestors are reportedly increasing allocations to real assetsKey drivers for investing in real assetsThe benefits of investing in infrastructureSlide Number 13Slide Number 142. Systematic InvestingFactor-based investment strategiesFactor investing looks through asset class labelsFinding alpha is increasingly challenging in today’s market environmentNew ways to answer old questions: Management Quality3. Custom / Opportunistic SolutionsCase Study: Canadian Pension Plan4. Hedge Fund SolutionsHedge funds provide diversification benefits to traditional portfoliosHedge funds are complementary to traditional portfolios Case study: custom emerging manager fundDisclaimerSlide Number 27