selective alternatives: alternative investments due diligence and selection

SELECTIVE ALTERNATIVES:Alternative investments due diligence and selection

May, 2017

2 | © 2016 All rights reserved

„In today‘s rapidly changing, fiercely

competitive world, you don‘t simply find

opportunities. You must create them.

Creating opportunities fuels

performance. That‘s the power of our

edge.“

(The Carlyle Group)


SELECTIVEALTERNATIVES

In today’s dynamic market conditions the challenge is huge for investment advisors and money managers to deliver performance, differentiate from the peers, attract and retain capital and investors trust.

Alternative investments enhance countercyclical characteristics of investment portfolios because:

Alternative investments exhibit lower correlation to traditional markets, providing the real diversification and downside protection (when it is needed the most)

Due to broad strategy and instrument selection alternative investments experience lower volatility, ensuring capital preservation (thus higher long term return potential)

Alternative investments allow access to unique ideas, niche strategies and tailor made solutions (less crowded, non-mainstream exposures)


While alternative investments are undoubtedly a value adding part to each investment portfolio, selecting the right ones isn’t straightforward. Not only most of the funds’ performance is average:

…selection of the best ones is actually much more than performance analysis!


* Source: Hedge Fund Research, Inc.HFRI Fund Weighted Composite Index

(Include ~ 2 200 Hedge Funds)

20,3%2015:

Total return

-1,1%

27,4%2014: 3,0%

TOP 10 %BOTTOM 10 %

-25,1%

-19,5%

Top 10% average returnBottom 10% average return

32,7%2016: 5,5%-15,5%


Since the 2008 financial crisis hedge fund operational and governance practices has become the focus of due diligence because:

Investors found themselves locked in with illiquid holdings and imposed restrictions

Most of the hedge funds scandals and blow ups happened not because of their investment ideas didn’t work, but because of shady operational practices and weak governance frameworks, allowing for outright fraud.

Institutional investors representing around 70% of hedge funds asset base are establishing operational excellence as one of the most important selection criteria



MC Investments is a specialized alternative investments advisory boutique based in

Vilnius, Lithuania. We support institutions in their due diligence and selection process for alternative investments.

WHAT CAN WE DO FOR YOU?

> PRODUCTS: present/introduce you to a selection of third party traditional and niche alternative strategies and managers that demonstrably enhance your clients’ portfolios

> DUE DILIGENCE: support your in-house team or serve as an outsourcing partner for any stage or full process of alternative investments research, due diligence and selection.

> PROCESS: introduction and set up of your in-house hedge fund due diligence process and methodology.

> PORTFOLIO ADVISORY: evaluate and advise on asset allocation, manager selection, portfolio construction process or take the mandate and be fully responsible for the alternative investments part of the overall portfolio: selection, management and performance.

SELECTIVEALTERNATIVES WHAT WE DO


MC Investments is your ONE STOP partner in sourcing reliable alternatives

We go through a thorough revision, due diligence and selection procedures until we feel confident, comfortable and prepared to present the manager to investors.

SELECTIVEALTERNATIVES WHAT WE DO

Search and review of the main fund information

Collection and examination of all available info based on the best market practices

Examine

Select/

Monitor

Review

Selection to the top picks list

were reviewed

65 funds in 201660 funds in 201553 funds in 2014

undergone the due diligence stage

were selected




There are more than 11 000 hedge funds in the world managingUSD3bn of assets.

It takes 2 weeks for an initial due diligence review for one of them. That is

22 000 weeks or 423 years just to review all of them .

Source: 2014 Deutsche Bank Alternative Investment Survey

How about spending all this time on your client relationships, service excellence or strategic allocation decisions while we take care of your alternative investments due diligence?

SELECTIVEALTERNATIVES DUE DILIGENCE


Examples of the crucial questions to be answered during the DD review include the following:

> How are the fund structures and governance models designed to align and protect investors’ interests and which of them are not?> How it is ensured that the scope and strategy limits are defined and can effectively serve as objectively measurable parameters for investors and directors to monitor and avoid the style drift?> Is the timeliness and content of risk reporting adequate to the investment strategy and portfolio turnover?> Which specific information has to be included in compliance manuals and is there an effective monitoring performed?> Observe lines of responsibility, functional segregation, organizational controls, required independency> Evaluate transparency, quality of investor relations, crisis communication> Ensure policies and procedures are not only documented but also followed and complied to > What are the practice of allocation between funds and other managed vehicles?> What is the mechanism of addressing the legal claims against the manager?



Stage I – REVIEW

• Performance figures‘ reliability• Return consistency• Return volatility• Benchmark correlation• Exceptional return rationale• Fund AUM and its dynamics• Strategy AUM• Subscription fees• Lock up terms and conditions

• Redemption frequency• Minimum investment• Management fee• Performance fee• Sales/distribution fee• Currency classes• Underlying assets of investments• Investment strategy in common• Management company profile

We review:



Stage II - EXAMINE

• Investment target• Investment selection process• Investment decision making• Investment restrictions• Portfolio diversification rules• Position concentration policy• Stop loss rule• Changes in investment processes• Market potential• Competitive edge• Position and overall fund leverage• Fund structure• Fund jurisdiction• Fund governance• Fund valuation• All fund expenses• Cash flow• Investment advisors• Bios of key professionals

• Marketing strength• Investor breakdown• Risk profile:

• Commercial risk• Market risk• Liquidity risk• Valuation risk• Counterparty risk• Fraud risk• Currency risk• Leverage risk• Expenses risk• Regulatory risk

• Capacity• Reporting• Conflict of interest• Third parties:

• Price• Changes• Contracts• Supervision• Certificates

• Employee compensation

We analyze:



Stage III - SELECT

• Application of best practice• Strategy sustainability• Successful target achievement• Fund manager experience• Reputation• Fund manager’s key people competence• Fulfillment of supervisory requirements• Risk management• Transparency• Limits of contactor parties‘ mandates• Compensation structure and independency• Valuation, calculation and audit objectivity

We consider:



Alternative investments due diligence and selection requires specialized competence, case by case experience and unfaltering judgement. Good news is that once you get it right, it is a structured and repeatable process.

This is how we can help you set up your alternative investments due diligence process from beginning to the end:

SELECTIVEALTERNATIVES PROCESS SET UP

• Your investment objectives and benchmarks

• Strategy and asset allocation models

• Role of alternatives

Goal setting

• Existing and potential alternative investment mandates

• In-house capacity and DD needs

Alternatives allocation analysis • Methodology

• Resources• Decision making process• Practical insight

DD process set up

• Alternative investments DD and selection manual

• Personal consultations and/or trainings

Delivery


This is what happens when you add the selected life settlements fund to a traditional investment portfolio:

ENHANCEMENTSELECTIVEALTERNATIVES

PORTFOLIO

60%

40%

Traditional portfolio

Equities

Bonds

48%

32%

20%

Enhanced portfolio

Equities

Bonds

Top pick

Annualized return: 5,43 %Ann. standard deviation: 10,09 %

Annualized return: 10,11 %Ann. standard deviation: 7,43 %

Return: up by 4,68 p.p.

Standard deviation: down by 2,66 p.p.

The benefit of portfolio enhancement in numbers

Time period: 2010 05 – 2016 07Equities: MSCI ACWI; Bonds: iShares Core U.S. Aggregate Bond ETF + PowerShares International Corporate ETF equally weightedAlternatives: Top pick Life settlements fund


Our current “top pick” investment idea – Life Settlements Fund

SELECTIVEALTERNATIVES OUR TOP IDEA


EQUITY HEDGE

Fund #1 is a long/short fund focused on small / mid-cap biotech and specialty pharma.

AUM USD551M

Liquidity No lock upRedemption quarterly, 45 d. notice

Minimum USD1M

2016 6,0%2015 19,2%2014 73,5%2013 122,4%2012 20,9%2011 12,9%2010 8,1%

Total CAGR: 35,37%

Annualized St Dev: 27,07%

Sharpe ratio: 1,30 *

EVENT DRIVEN

Fund #2 seek to capitalize on out-of-favor, analysis-intensive securities in the mortgage-backed securities space..

AUM USD219M

Liquidity 1Y lock upRedemption quarterly, 60 d. notice

Minimum USD500k

Total CAGR: 21,29 %



** Risk free rate – 0,21% (German 10 year bond yield on December 31, 2016)

SELECTIVEALTERNATIVES OTHER PICKS

2016 8,2%2015 8,1%2014 13,9%2013 27,4%2012 48,9%2011 14,8%


TACTICAL TRADING

Fund #3 is an opportunistic global-macro fund that takes exposure to liquid asset markets.

AUM USD313M

Liquidity No lock upRedemption monthly, 3 d. notice

Minimum USD100k

Total CAGR: 15,61%



FUND OF HEDGE FUNDS

Fund #4 seek to invest in funds with focus on asymmetric return profiles.

AUM USD570M

Liquidity No lock upRedemption quarterly, 45 d. notice

Minimum USD125k

Total CAGR: 6,30 %



2016 14,4%2015 -21,5%2014 31,9%2013 34,9%2012 4,9%2011 53,5%2010 28,1%2009 13,7%

OTHER PICKSSELECTIVEALTERNATIVES OTHER PICKS

2016 -3,5%2015 1,4%2014 11,4%2013 8,5%2012 10,7%2011 2,9%

** Risk free rate – 0,21% (German 10 year bond yield on December 31, 2016)


The most common reason the fund is being rejected is the lack of transparency whereas sometimes serious misinformation is captured.

#1Fund investment field: Real Estate (RE)Rejection reason: Conflict of interestExplanation: Fund manager and RE developer are from the same corporation where fund investors‘ interest might be improperly represented.

#2Fund investment field: ForexRejection reason: Inappropriate backgroundExplanation: The director of fund management company was sentenced for criminal activity and is associated to mafia connections.

#3Fund investment field: Life SettlementsRejection reason: Incorrect ValuationExplanation: Fund Management had the right to evaluate fund value by themselves or correct the valuation done by a third party.

#4Fund investment field: Global MacroRejection reason: Side pocketsExplanation: Illiquid assets are held in separate “side pocket accounts” and belong only to those investors that are already invested not to the new ones.

CASE STUDIESSELECTIVEALTERNATIVES


Why MC Investments?

> Highly focused and specialized expertise: 30+ years of cumulative experience in the hedge fund space

> Proven track record of successful manager selection for intermediaries and investors in 16 countries worldwide including the Baltics, China, Czech Republic, Hong Kong, Indonesia, Israel, Luxembourg, Middle East, the Netherlands, Russia, Singapore, Sweden, Switzerland, the UK, USA who jointly allocated more than $100m .

> Nimble, flexible, adaptable: services tailored to your specific mandates and assignments you have for us

> Cost efficiency: cost argument in favor of outsourcing has long been established; however, we provide additional layer of effectiveness as we are based in Lithuania

SELECTIVEALTERNATIVES WHY WE


Our expertise and service excellence has been recognized by the following renown industry awards:

SELECTIVEALTERNATIVES OUR AWARDS

Wealth Management Firm of the Year - LithuaniaBy Wealth & Finance International MagazineIn 2015 and 2014

Most Outstanding Financial Advisory Boutique - Lithu aniaBy The Corporate Livewire Innovation and Excellence AwardsIn 2015

Holistic wealth management service provider of the year - LithuaniaBy International Hedge Fund AwardsIn 2014 and 2013


Our final recommendation

For more information please contact:

Marius CiuzelisManaging partnerT: +370 698 40 095 E: [email protected]


DISCLAIMER This publication is for general information only. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument. Past performance is no guarantee for future results. You should note that high performance targets can only be achieved through accepting higher risk of the portfolio. Where included in this document, benchmarks and index data provided are for illustrative purposes only. The portfolio / strategy mentioned does not formally track any such benchmarks or indices and no representation is made as to relative future performance or tracking deviation. In some circumstances it may be difficult for the investor to sell or realise such investments or obtain reliable information about their value. Where an investment is denominated in a currency other than the investor‘s currency, changes in rates of exchange may have an adverse effect on the value, price of, or income derived from the investment. The investments discussed may not be suitable for all investors. Before committing to an investment, you should seek for the professional investment, legal, tax or accounting advise.All information provided in this publication is considered reliable. In the event of changing market circumstances MC Investments will not be held responsible for any damages experienced by investors.

selective alternatives: alternative investments due diligence and selection

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