In a traditional ‘balanced’ portfolio, equities often account for 50% or less of the allocation. Yet factor analysis reveals that nearly 80% of the risk stems from the equity factor.
In other words, equity risk dominates, and the bond counterweight fails when correlations rise and interest rates cease to act as a buffer; 2022 was a harsh reality check.
It is precisely during these episodes that losses mount that are difficult to recoup. As a reminder, a portfolio that loses 30% must gain 43% to return to its initial level. Investors underperform not because they miss the rallies, but because they struggle to stay invested during downturns. Risk tolerance is always tested in extreme stress scenarios.
Add uncorrelated returns
The answer is not to pile on asset classes, but to add genuine sources of uncorrelated returns. As Ray Dalio puts it: ‘With fifteen to twenty good uncorrelated return streams, I could significantly reduce my risks without reducing my expected returns.’
Each additional source significantly reduces portfolio risk while preserving expected returns.
From March’s market turmoil to renewed conviction
Following the market turmoil in March, which was driven primarily by the conflict in the Middle East and its ramifications, markets have rebounded. Beyond the current cycle, several alternative strategies maintain a particularly compelling profile.
- Convertible arbitrage: issuers’ credit quality remains strong, while high volatility in individual stocks enhances the value of the embedded equity option. Strong activity in the primary market also offers ample reinvestment opportunities and contributes to more favourable entry points in the secondary market.
- Long/short credit: typically focused on high-yield credit, this segment combines carry and capital appreciation potential, complemented by short opportunities. In an environment of tight spreads but resilient fundamentals, the ability to express directional views on credit with downside protection represents precisely the asymmetry that clients should look for.
- Systematic strategies: these are designed for ultimate diversification, with low sensitivity to equities and bonds, and they are gaining relevance. The deployment of artificial intelligence in finance will accelerate the development of models and increase opportunities in this sector.
Core portfolio, not satellite
The lesson from 2022, and more recently from the market disruption in March, is clear: hedge funds are shifting from a tactical satellite allocation to a strategic building block at the core of a portfolio. The stakes go beyond the simple pursuit of alpha; it is about capturing the streams of return that allow a portfolio to capitalise across cycles. As Warren Buffett put it, ‘Rule No. 1: Never lose money. Rule No. 2: Never forget Rule No. 1’. Hedge funds, when properly constructed, are the way a modern portfolio can diversify risk and contribute to performance at times that differ from those of other asset classes.
‘Rule No. 1: Never lose money. Rule No. 2: Never forget Rule No. 1’
Warren Buffet
For investors building wealth across multiple generations, or for institutions facing demanding liabilities, the question is no longer whether to allocate to hedge funds, but rather how and by how much.
The opinions expressed herein are correct as at 12 June 2026 and are subject to change without notice. This information should not be relied upon by the reader as research or investment advice regarding any particular fund, strategy or security. Past performance is not a guide to current or future results. Any forecast, projection or target, where provided, is indicative only and is not guaranteed in any way.
