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Columbia Alternative Beta Fund Diversifying Differently

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Columbia Alternative Beta Fund Diversifying Differently COLUMBIA ALTERNATIVE BETA FUND DIVERSIFYING DIFFERENTLY Share class A Advisor C Institutional Institutional 2 Institutional 3 R Symbol CLAAX CLFUX CLABX CLAZX CLIVX CLAYX CRRLX This is a specialized fund. Please see risk disclosure for important information. “ AS INVESTORS URGENTLY SEEK WAYS TO TRULY DIVERSIFY THEIR PORTFOLIOS, ALTERNATIVE BETA STRATEGIES OFFER A LOW-COST, LIQUID ALTERNATIVE TO MULTI-STRATEGY AND FUND-OF-HEDGE FUNDS.” BILL LANDES HEAD OF GLOBAL INVESTMENT SOLUTIONS THINK DIFFERENTLY TO ACHIEVE YOUR GOALS Over the last several decades, a portfolio invested across stocks and bonds struck a nice balance between risk and return. But in today’s environment of subpar economic conditions around the world, in which stock and bond returns are likely to remain modest, achieving improved risk-adjusted returns through traditional asset class diversification has become extraordinarily challenging. And while formerly considered a valuable diversification tool, even hedge funds are coming up short. To respond to this environment, you need to think differently. It’s time to consider new sources of return — and new sources of diversification — and look for meaningful ways to incorporate them into your portfolio. FOLLOW AN ALTERNATIVE PATH TO DIVERSIFICATION Based on a highly respected body of academic research spanning nearly 40 years, alternative beta strategies target absolute returns that are not market directional and therefore lowly correlated to major asset classes. They are also more liquid and transparent than traditional hedge funds and carry far lower fees. Given today’s low interest rates and the potential for rates to rise, it is critical to make sure that your portfolio can withstand increasing market volatility. Columbia Alternative Beta Fund offers the opportunity to achieve a more diversified portfolio. Diversification does not assure a profit or protect against loss. Columbia Alternative Beta Fund 3 UNDERSTANDING HOW ALTERNATIVE BETA STRATEGIES WORK THE TOOLS AND RESOURCES TO GENERATE PORTFOLIO RETURNS HAVE EVOLVED WHAT IS A FACTOR? A factor is a characteristic of a group of securities that is important to explaining its risk and return. Some of the more common factors include: ■ Manager skill ■ Market Higher cost and elusive ■ Momentum ALPHA ■ Size ■ Risk/volatility ■ Credit ■ Style ■ Carry Lower cost and ■ Momentum ■ Curve BETA harder to replicate ■ Value ■ Volatility ALTERNATIVE ■ Equity ■ Rates Low cost ■ Credit ■ Currency BETA and prevalent ■ Commodities TRADITIONAL Capital markets have embedded systematic risks, and those risks are typically measured by market betas. Historically investors have extracted the payoffs — or risk premia — associated with market betas in traditional ways, such as owning stocks and taking advantage of the equity risk premia, or owning high-yield bonds as a way to earn the credit risk premia. Earning the return is the reward for taking the risk associated with the specific strategy or asset class. Alternative betas are no different. They attempt to extract payoffs (excess returns) associated with systematic risks, but they use non-traditional techniques such as long/short and arbitrage to garner those returns. Sometimes called liquid risk premia, alternative betas allow the investor to isolate return opportunities from style factors, such as value or momentum, without taking on market directionality in order to earn those returns. Alternative betas exist across equity, fixed-income, credit, currency and commodity asset classes and may be excellent diversifiers for a broad-based asset allocation portfolio. 4 BREAKING DOWN NON-TRADITIONAL INVESTMENTS Investors have always been interested in understanding alpha, the return derived from active decisions to buy certain stocks or to overweight or underweight certain securities or sectors, as well as beta, the return derived from passive exposure to the market. Recent research has revealed that some returns previously categorized as alpha are actually alternative beta. NON-TRADITIONAL INVESTMENTS 101: A SIDE-BY-SIDE LOOK AT THE OPTIONS ALTERNATIVE NON- HEDGE FUND BETA TRADITIONAL STRATEGIES STRATEGIES ASSET CLASSES What are they? What are they? What are they? Beta is a measure of the A high-conviction portfolio of Non-traditional asset classes systematic risk of a market strategies managed by hedge are those other than traditional (e.g., U.S. equity) that can be fund advisers. Hedge fund stocks and bonds, which exploited by traditional investing. advisers can employ various may include real assets Alternative beta is a measure of strategies such as fundamental, (commodities, REITs, inflation- the systematic risks in markets quantitative, opportunistic linked bonds) and listed private that can be exploited through trading, global macro and equities that are often less techniques such as long/short, multi-strategy. correlated to traditional markets. value, momentum, size, quality or volatility. Alternative beta can be captured through rules-based trading strategies. What is the benefit What is the benefit What is the benefit to the investor? to the investor? to the investor? Alternative beta strategies offer Hedge fund strategies Exposure to non-traditional asset additional return sources to offer potential for alpha classes is dynamically adjusted enhance portfolio diversification (excess return) and low to potentially capitalize on and maximize risk-adjusted correlation to traditional opportunities during favorable returns while being mindful of stock and bond markets. market environments and protect systematic risk exposures from during unfavorable conditions. other strategies in the portfolio. Columbia Alternative Beta Fund 5 ANALYZING HOW RISK PREMIA WORKS Targeting an isolated alternative beta allows an investor to directly own the value risk premia with little to no market directionality. This technique, applied across a range of diverse alternative beta factors, offers many of the same exposures an investor would get from owning a multi-strategy “ The key is to access the hedge fund but with daily liquidity and much lower fees. most cost-effective and capital- efficient array of risk premia structures available. Investors should not get hung up on who is manufacturing them. ALTERNATIVE BETA STRATEGIES USE SYSTEMATIC TRADING RULES TO CAPTURE RISK PREMIA We think that the emphasis should be on assembling the The theory behind the construction of the indices is pretty straightforward. Let’s say that we want to most advantageous diversified portfolio possible — the capture the value premia, meaning the tendency of cheaper stocks to outperform expensive stocks principle of best ingredients.” over time. For this example, we will use price-to-book as the measure of value and the S&P 500 Index as the building blocks. To create an alternative beta index, we would rank the S&P 500 top to Bill Landes bottom based on price-to-book, from the cheapest stocks to the most expensive stocks. We would Head of Global Investment Solutions go long the top 20% cheapest stocks, go short the bottom 20% most expensive stocks and remove the middle 60%, which market-neutralizes the holdings. In the end we have a risk premia with limited directional market bias, and we have isolated the value component. Consequently, we have only limited equity beta — we are just long cheap stocks, short expensive stocks and beta-neutral (or near that) and sector-neutral. ■■ VALUE PREMIUM ■■ MOMENTUM PREMIUM ■■ CARRY PREMIUM ALTERNATIVE BETA ALTERNATIVE BETA ALTERNATIVE BETA captures the tendency captures the tendency for captures the tendency for cheap assets to have assets that have performed for higher yielding assets above-market returns and well in the recent past to to outperform lower yielding expensive assets to have continue to perform well, assets over time. below-market returns. This is and assets that have perhaps the best known performed poorly in the premium. An extensive recent past to continue library of academic research to perform poorly. explores its existence across asset classes. 6 TAKING ADVANTAGE OF LOW CORRELATION An important advantage of alternative betas is their low correlation to broad equity and fixed-income markets, and to each other. This makes them especially appealing to investors seeking to reduce overall portfolio volatility. Our internal research demonstrates two very important characteristics of alternative beta structures. First, the average pair-wise correlation among a diversified collection of multi-strategy alternative beta positions is an extremely low 0.04%. This unique statistical independence makes them powerful portfolio building blocks. Second, the low pair-wise correlation relationship is persistent over and across market cycles. In other words, alternative beta exposures maintain their low correlations across shifting market environments. The addition of an alternative beta allocation to an overall portfolio can improve portfolio diversification and provide a compelling story for any investor seeking lower drawdowns and greater overall portfolio efficiency through diversification. HISTORICAL AVERAGE PAIR-WISE CORRELATIONS HAVE DEMONSTRATED STABILITY THROUGH TIME 0.20 0.15 0.10 0.05 (%) 0.00 – 0.05 – 0.10 GLOBAL FINANCIAL CRISIS – 0.15 – 0.20 06/30/0512/30/0506/30/0612/29/0606/29/0712/31/0706/30/0812/31/0806/30/0912/31/0906/30/1012/31/1006/30/1112/30/1106/29/1212/31/1206/28/1312/31/1306/30/1412/31/1406/30/1512/31/1506/30/1612/30/16 24-month average pair-wise correlation Average Source: Columbia Management Investment
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