Beyond Beta: How to use alternatives to replace public equity

Secular changes affecting public equity markets and a surge in inflation have accentuated some of the vulnerabilities of public equities as an asset class. Public equity markets are becoming more concentrated, reducing both the opportunity set for investors and diversification levels within investment portfolios. Inflation and higher discount rates have eroded real returns on public equity allocations recently.

All these developments are occurring against the backdrop of consistent underperformance by active equity managers, especially in the large-cap space.1 None of these changes have shaken investors’ confidence in the ability of public equities to deliver core benefits like enhanced liquidity and positive returns over full market cycles.

However, we at Apollo are increasingly concerned about how those returns will be achieved, and how smooth or bumpy a ride it will be to capture them. Volatility can play a large detrimental role in the terminal value of investors’ portfolios.

As a long-time private-market investor, this discussion is of great importance to us. We look at how public equity markets are changing, how those changes could be affecting the portfolios of investors who allocate sizable portions of their assets to the asset class, and whether private markets can provide alternative approaches with the potential to enhance results. Specifically, we set out to determine if there is a solution that could be used to mitigate the heightened volatility and other vulnerabilities of public equity while maintaining potential returns on par with (or above) public stocks. In this paper, we explore how a carefully constructed portfolio of alternatives can replicate the return profile of the S&P 500 Index at lower levels of volatility and modest correlation.

We believe that a carefully constructed portfolio of alternative strategies can deliver the return outcomes traditionally expected from public equity exposures, while providing additional benefits including volatility dampening, protection against inflation, and an expanded investable universe that includes private markets.

Although building and managing a diversified portfolio of alternatives introduces a set of new risks and challenges, there are solutions that can simplify the investment process. Given the increasing availability of these solutions, we believe both institutional and individual investors have the opportunity to enhance long-term risk adjusted portfolio returns by implementing an alternatives-based public equity-replacement strategy.

To learn more, read our recent white paper.