Weekly Reads - August 7, 2023
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Despite a decade of being failed by private equity, hedge funds, and real estate public pension funds in the U.S continue to extensively diversify into these alternative investments regardless of the potential negative impact.
A study published in the Journal of Investing shows that alternative investments have been more damaging than helpful in the returns of public pension funds. This study shows that alternative investments did not deliver better returns instead they actually destroyed alpha, the portion of return not explained by risk or the return on an active investment above what an index fund would provide. According to the study, public pension funds in the U.S. have generated negative alpha of 1.2 percent annually since 2008. Specifically, hedge funds and real estate detracted significantly from performance, and private equity didn’t help or hurt excess returns. Despite this data endowments, public and corporate pensions have poured $2 trillion into alternative investments. Since 2000 institutions have moved from mostly holding public stocks and bonds to adding alternative investments in hopes of outperforming public markets and diversifying their portfolios. This study offers a completely different take highlighting that stock and bond indexes already capture the return-variability characteristics of alternative funds and provide ample diversification as is. For every point of asset allocation to alternatives, there is a corresponding 7.3 bps reduction in annualized total fund alpha. Alternatives have become more commoditized over the years as interest in these asset classes has skyrocketed yet investor costs have not moved lower. While this study cannot emphatically prove alternatives destroy alpha, this study is another data point for the argument that over-diversification often leads to poor risk-adjusted returns over an entire market cycle.
The global importance of chip designer Arm is being highlighted through its IPO process with the largest tech companies in the world seeking ownership stakes in the company.
Softbank’s owned chip designer Arm is expecting a busy IPO in September with the company in talks with ten companies including Apple, Samsung, and Intel to become anchor investors in the offering. This follows last month’s reports that Arm was in talks with NVIDIA as an anchor investor. The fervor around Arm is very interesting considering Arm is a far smaller company than most of its customers and prospective anchor investors. Arm could raise between $8 to $10 billion through its planned listing which is a drop in the bucket compared to billion- and trillion-dollar market cap giants like NVIDIA, Apple, and Samsung. The reason why interest in Arm is so high is the growing popularity of Arm processors in different types of hardware applications. Arm processors are becoming the industry standard due to their low power consumption, low cost, and reasonable performance. The biggest hardware companies in the world have slowly shifted away from legacy x86 to Arm processors, making Arm a crucial strategic partner. Just last year NVIDIA attempted to acquire Arm for over $40 billion citing the need to invest in Arm R&D as the company believed x86 was reaching its design limits. With Arm seen as the future of processing, it is no wonder that so many giant tech companies are seeking to establish a long-term strategic alliance with the company.
The merging of Dish and EchoStar reeks of desperation as two struggling companies reunite in hopes that they can spur a turnaround.
Billionaire Charlie Ergen is consolidating his empire reuniting satellite and broadband companies Dish Network and EchoStar. This isn’t the first time these businesses were under the same roof with EchoStar previously spun off from Dish in 2008. Since the spin-off, both companies have kept a close relationship with Dish acquiring assets from EchoStar including its satellite service. As one consolidated entity, the new company will own a variety of assets including Boost Mobile, Ting, Republic Wireless, Gen Mobile, Dish Wireless, Sling TV, and Hughes broadband. This merger allows Dish’s 5G network to cover more than 70% of the U.S. as the company looks to grow its mobile wireless business. While the merger could help strengthen both businesses by sharing back-office functions, talent, and R&D it is unlikely to change the fortune of either company. Both companies have struggled to impress investors over the last few years with Dish’s legacy pay-tv business shrinking and its wireless business struggling to compete against incumbents. EchoStar’s performance has not been much better with the company experiencing competitive pressures in broadband that have resulted in recent losses of subscribers. Two struggling companies remerging after a decade apart is unlikely to inspire market confidence that a turnaround is on its way.