The core investment thesis is that CCAs will transition from an annual supply surplus to persistent deficits within the next one to two years, even without further supply tightening. In more mature carbon markets, such a shift has historically led to sharp price increases. Total program cumulative supply, including inventories, is expected to go into deficit between 2030 and 2035, with 2030 depletion estimates dependent on timely implementation of CARB’s supply reduction plan.

CCAs now trade near the 2025 price floor set by CARB, limiting downside risk. The floor price increases annually by 5% plus inflation, providing a steadily rising base. With the CCA price roughly 3% above the floor, the minimum return from the current purchase price is 2% plus inflation over the next year, and inflation plus 5% over subsequent years. Should anticipated catalysts materialize, prices could retrace its losses to around $40, a gain of nearly 50%.

While timing is uncertain, annual deficits will eventually drive prices to the first price containment tier, designed to slow carbon price increases. If covered entities need to buy CCAs beyond what remains in inventory and the allowance price containment reserve, CARB executes a price ceiling sale. The potential upside from such an eventuality is eyepopping. There are multiple price ceilings with set allowances in reserve, with the first at $60.47, increased by 5% plus inflation annually. As of May 2, prices are 143% below the first containment tier value for 2026. Accounting for the mandated price increases, if it takes three years to reach the containment tier, CCAs could deliver a 41% annualized return, and if five years, a 26% annualized return.

While the price floor limits downside, program elimination would render CCAs worthless. President Trump’s EO elevated concerns, even though the risk to the program is likely minimal. The order directs the US Attorney General to review state and local climate regulations, including California’s Cap-and-Trade Program, to determine if they are unconstitutional and obstruct US energy use or production by June 7. Legal counsel for managers participating in this market has consistently concluded the EO has no legal basis. The program has also survived court scrutiny, including by the current Supreme Court.

Following the EO, Governor Newsom and bipartisan state legislators have reaffirmed strong support for the CCA program and expressed intent to pass legislation extending it through 2045 this year. CARB has announced plans to implement program tightening soon after. These actions, if realized, would be significant catalysts for CCA prices, providing greater certainty and potentially accelerating the shift to a market deficit.

The upside potential for CCAs relative to the downside risk justifies an allocation, particularly when funded from global equities. For example, if global equity valuations revert to their historical median over three years, the annualized price return would be -8.3%. With CCA prices near the floor, the probability of program termination would need to be at least 20% for the probability-weighted downside to match that of equities reverting to their median valuation. In contrast, if CCAs recover to their prior highs of around $40, the annualized returns would be 14.4% over three years—a scenario requiring global equities to reach record-high valuations. Political risk is inherent in the CCA market and may not suit all investors. Overall, for investors comfortable with the unique risks, CCAs offer a compelling risk-reward profile that can enhance portfolio diversification and return potential.

Celia Dallas, Chief Investment Strategist

The post Are California Carbon Allowances an Attractive Investment? appeared first on Cambridge Associates.

Overall, we think investors should hold EM allocations in line with policy targets. But periods of volatility and equity market dislocations often present opportunities for investors to add value through tactical portfolio tilts. Although EM equity performance has lagged since the Global Financial Crisis, we see growing evidence that EM equities may soon offer an attractive opportunity. This thesis is predicated on further US dollar weakness, a reset in EM valuations and earnings growth expectations (which appear elevated today), and signs of a rebound in economic activity. Below, we outline a framework to help inform when a tactical overweight position toward EM stocks may become appropriate.

Countries in the EM Asia region appear most at risk from the US tariff proposal. Announced reciprocal tariff rates were generally north of 20%, given the region’s large trade surpluses with the United States. Figure 1 plots exports to the United States as a percentage of GDP for each MSCI EM Index country versus the announced reciprocal tariff rate. This illustrates where the tariff imposition could be most impactful from a direct trade point of view, barring any second-order effects. China is excluded for scale purposes, as the US tariff rate on Chinese imports has increased to 145% in a tit-for-tat escalation. While the US administration’s broader tariff policy appears to have become increasingly targeted against China, recent commentary from US officials and President Trump suggests this tariff rate is likely to be lowered.

Malaysia, Taiwan, and Thailand appear particularly at risk as exports to the United States account for a hefty portion of their respective economic output. The upshot is that we expect the relatively smaller Southeast Asian countries are likely to negotiate more benign outcomes, given that trade barriers were relatively limited to begin with. India and Taiwan are also likely to negotiate down the tariff rate but may face a more challenging path forward and face specific sectoral-tariff risks. India has significant trade barriers in place and has a large pharmaceutical sector that may face levies. Meanwhile, Taiwan’s dominance in semiconductor manufacturing (to which the United States has become increasingly hawkish) and reliance on the United States from both an export and security perspective could leave them in a weaker negotiating position. Valuations for both these countries remain elevated, leaving equity market performance at risk if subsequent policy updates disappoint expectations. Broadly speaking, we believe Asia will bear the brunt of tariff and growth uncertainty even after finalizing deals to lower tariff rates, given their relatively larger economic exposures to the United States.

Outside of Mexico, Latin American countries received the 10% baseline universal tariff rate as these economies generally run trade deficits or small surpluses with the United States. Mexico was also excluded from Figure 1, as exports to the United States as a percentage of total economic output stood at nearly 30% as of year-end 2024. Although Mexico was spared from escalation with the reciprocal tariff announcement, earlier tariff actions should have an outsized adverse economic impact. Indeed, the International Monetary Fund recently lowered their 2025 GDP growth expectation for Mexico to -0.3%. Similar to broader Latin America, countries in the Middle East came in at the baseline tariff level. South Africa was a notable exception within the EMEA region; however, several key exports were exempted in the reciprocal round, including gold and other major metals and minerals.

Equity market performance has largely reflected trade policy dynamics. Latin American and EMEA equities have returned 7.2% and 1.6%, respectively, month-to-date through April 28 in US dollar terms, compared to -0.5% for the EM Asia segment (Figure 2). Year-to-date, the former two EM regions have also enjoyed strong gains, outperforming both the broader EM index and DM counterparts. These trends have held true even when looking at performance data in local currency terms, which removes the impact of US dollar depreciation. In aggregate, the US dollar has depreciated the most versus other DM currencies, adding more than 8 percentage points to the DM ex US year-to-date return in US dollar terms, versus just more than 1% for the equivalent EM return.

Latin America and EMEA may be better positioned to weather the tariff storm. Latin America’s performance has rallied from a steep drawdown in 2024, when the region declined more than 26% in US dollar terms. But market technicals aside, the region is likely past peak tariff uncertainty with the threat fully priced in at today’s low valuation levels across the region. Further, demand for Latin American exports (e.g., Brazilian agriculture) may ultimately increase, given that the region’s trade relations with China have deepened in recent years. Similarly, EMEA performance reflects some catch up, as the region has lagged the broader EM index over the trailing three-year period. Year-to-date performance for the region has been driven largely by South Africa, Poland, and Greece, with the latter bolstered by an improving European growth outlook supported by prospects for higher fiscal spending. This tailwind is unlikely to fade, given the shifting geopolitical winds.

Perhaps counterintuitively, the recent economic and financial market shock has contributed to a building case for a tactical overweight to EM equities. US tariff policy has increased the likelihood that global economic growth will slow—with some countries potentially falling into a recession—representing a deflationary shock for the EM bloc. However, EM stocks tend to outperform DM peers during the early recovery stage of the business cycle and appear primed to do so again in the aftermath of a slowdown/recessionary scenario. This assertion is predicated on two key factors. First, EM authorities are likely to employ stimulative fiscal and monetary policies in the face of economic weakness. Second, prospects for further US dollar weakening have increased. The greenback’s depreciation has been a key driver of EM equity outperformance in prior cycles as it typically indicates easing financial conditions globally, capital flows favoring non-US markets, and better growth prospects outside the United States. These conditions tend to support EM equity outperformance.

To be clear, we remain neutral on EM equities for now, as initiating an overweight stance today appears premature. EM equities are a cyclical asset class, and hard economic data are likely to soften in the coming months. EM earnings results tend to be closely tied to trade volume growth, where the latest consensus EPS growth expectation for 2025 (13%) appears at risk of downgrades. And although EM equity valuations are depressed relative to DM peers, they remain somewhat elevated in absolute terms, suggesting room for further downside if hard economic data do indeed soften in the months ahead (Figure 3).

Putting it all together, we are watching for several conditions to be met that would allow us to have greater confidence in an EM equity overweight. These include increased prospects for further US dollar weakness, a reset lower of absolute EM equity valuations and earnings growth expectations, and signs of a bottoming out in economic data.

Periods of market stress often present opportunities in riskier corners of the financial markets. EM equities are no exception. But with a sound framework and investment process, investors who lean into these areas at opportune times stand to reap the rewards. That said, given the volatility of EM stocks, any overweight recommendation vis-à-vis DM would be modestly sized.

Stuart Brown, Senior Investment Director, Capital Markets Research

David Kautter also contributed to this publication.

Index Disclosures
MSCI Emerging Markets Index
The MSCI Emerging Markets Index captures large- and mid-cap representation across 24 emerging markets (EM) countries. With 1,206 constituents, the index covers approximately 85% of the free float–adjusted market capitalization in each country. Emerging markets countries include: Brazil, Chile, China, Colombia, the Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Kuwait, Malaysia, Mexico, Peru, the Philippines, Poland, Qatar, Saudi Arabia, South Africa, Taiwan, Thailand, Turkey, and the United Arab Emirates.

MSCI Emerging Markets Asia Index
The MSCI Emerging Markets Asia Index captures large- and mid-cap representation across eight EM countries. With 976 constituents, the index covers approximately 85% of the free float–adjusted market capitalization in each country. EM Asia countries include: China, India, Indonesia, Korea, Malaysia, the Philippines, Taiwan, and Thailand.

MSCI Emerging Markets EMEA Index
The MSCI Emerging Markets EMEA Index captures large- and mid-cap representation across 11 EM countries in Europe, the Middle East, and Africa (EMEA). With 147 constituents, the index covers approximately 85% of the free float–adjusted market capitalization in each country. EM EMEA countries include: the Czech Republic, Egypt, Greece, Hungary, Kuwait, Poland, Qatar, Saudi Arabia, South Africa, Turkey, and the United Arab Emirates.

MSCI Emerging Markets Latin American Index
The MSCI EM Latin American Index captures large- and mid-cap representation across five EM countries in Latin America. With 83 constituents, the index covers approximately 85% of the free float–adjusted market capitalization in each country. EM Latin America countries include: Brazil, Chile, Colombia, Mexico, and Peru.

MSCI US Index
The MSCI US Index is designed to measure the performance of the large- and mid-cap segments of the US market. With 625 constituents, the index covers approximately 85% of the free float–adjusted market capitalization in the United States.

MSCI World ex US Index
The MSCI World ex US Index captures large- and mid-cap representation across 22 of 23 developed markets (DM) countries—excluding the United States. With 776 constituents, the index covers approximately 85% of the free float–adjusted market capitalization in each country. DM countries include: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, and the United Kingdom.

The post EM Equity Performance Reflects Initial Tariff Risks appeared first on Cambridge Associates.

Aaron Costello, Head of Asia, and Vivian Gan, Investment Director, Capital Markets Research

Asian and global market volatility surged in early 2025 as US tariffs triggered global growth fears. Given the export-oriented nature of most Asian economies and their sensitivity to global growth and demand, the region may bear the brunt of US tariffs. As such, Asia market volatility is likely to persist in the near term, particularly since US trade policy can shift abruptly.

With the United States and China locked in a tariff standoff, at least for now, a key question is to what extent China and other Asian economies will increase fiscal and monetary stimulus to offset the economic impact from US tariffs. Aggressive stimulus, particularly from China, may help to support growth and sentiments in Asia more broadly.

Considering the current environment of higher uncertainty and volatility, as well as global equity market concentration in US large-cap technology stocks, we view portfolio diversification is key in managing downside risks. We favour strategies that are more attractively priced, are less correlated to the broader market, or are able to capitalise on any dislocations that may result from economic stress.

In this edition of Asia Insights, we highlight:

• Within Public Equities: We view Asia ex Japan value-oriented strategies could add a layer of downside protection, given less demanding starting valuations and a differentiated sector exposure that is less concentrated in technology.
• Across Hedge Funds: Asia event-driven strategies warrant a second look today, given an improved manager competitive landscape and a current macro environment that is supportive of alpha generation. Event-driven strategies also tend to be less correlated to broader equity markets, and therefore could serve as a diversifying strategy amid current market volatility.
• Within Private Investments: We remain constructive on Japanese buyouts, given strong underlying supply and demand fundamentals. Deal flow is likely to remain robust as Japan’s aging demographics and ongoing corporate governance reforms continue to drive corporate actions. It may be further accelerated by dislocations created by US tariffs. Meanwhile, attractive entry valuations today and the availability of cheaper leverage lend support to continued capital inflows.
• For Real Assets: We see increased opportunities in Asia-Pacific value-add and opportunistic infrastructure today, given the region’s maturing regulatory environment and longer-term demand for infrastructure spending. We are positive today on data centers and renewable energy infrastructure, which are backed by strong fundamental demands while also less sensitive to potential growth and trade shocks.

Public Equities: Seek Diversification Through Asia Value-Oriented Strategies

Wilson Chen, Managing Director, Public Equities, and Vivian Gan, Investment Director, Capital Markets Research

Global equities saw heightened volatility in early 2025 as US tariffs added uncertainty to the global growth and inflation outlook. Markets also saw a tentative rotation in leadership from US large-cap technology stocks towards non-US markets. In the current environment, we view that Asia ex Japan value-oriented strategies could add diversification to investor portfolios, given favourable valuations and underlying exposures.

Value-oriented strategies range from deep value to quality value, with managers seeking to identify undervalued segments of the market. Today, we would focus on value managers that invest with a quality lens, as companies that have stronger balance sheets can better withstand economic shocks. Value strategies that emphasise dividend returns may also be poised to benefit as global rates decline amid continued central bank easing.

While markets are in flux following the tariff announcements, active Asia value-oriented strategies tend to overweight China and Southeast Asia and underweight Taiwan and India as of end March. They also tend to underweight IT and communication services in favour of cyclical sectors (e.g., industrials) or more defensive segments of the market (e.g., consumer staples and utilities). While Asian equities as a whole face macro headwinds, the lower valuations for these markets and sectors may ultimately help to limit the downside. They may also see greater upside should Asian economies strike trade deals with the United States, and benefit from increased monetary and fiscal stimulus, particularly from China.

Overall, the market environment remains uncertain, but we still think Asia value-oriented strategies allow for a differentiated and less tech-concentrated exposure to Asia while offering a valuation cushion that could be more defensive in the current environment.

Hedge Funds: A Second Wind for Asia Event-Driven Strategies

Benjamin Low, Senior Investment Director, Hedge Funds, and Vivian Gan, Investment Director, Capital Markets Research

Asia event-driven strategies are starting to look more interesting today as a diversifying strategy amid current market volatility. Heading into 2025, the region had seen a tentative recovery in capital markets activities, with mergers & acquisitions (M&A) and initial public offerings (IPOs) on the rise. At the same time, the closure of a prominent Asia event-driven hedge fund in early 2024 has created a more level playing field for the remaining players and improved the manager competitive landscape.

Event-driven strategies seek to generate alpha from market inefficiencies around corporate events, such as mergers, spin-offs, stock buybacks, and IPOs. While these strategies are typically equity-oriented, managers may invest across the capital structure to add value. Event-driven strategies tend to be less correlated to broader equity markets, and therefore could play a role in investor portfolios as a diversifying strategy.

The opportunity set for Asia event-driven strategies had been improving amid a rebound in the region’s capital markets activities. Managers invest across both developed Asia (e.g., Japan and Australia) and emerging Asia (e.g., China, India, and Southeast Asia). While US tariffs are adding uncertainty to the near-term outlook, we continue to see the environment as favourable for event-driven strategies. Japan remains a key market of interest as ongoing efforts to improve corporate governance and shareholder returns have led to more robust levels of corporate actions, including M&As, take-privates, and spinouts. Managers also note similar opportunities may increase in South Korea following the introduction of its ‘Corporate Value-Up Program’. China and Hong Kong are also of focus. Weaker economic growth in recent years has led to increased deal opportunities from market consolidation and divestments by multinationals, and these trends may actually accelerate should US tariffs create economic and corporate dislocations in Asia.

Overall, we view Asia event-driven strategies warrant a second look today given the likely increase in corporate actions in the region and the added diversification such strategies can bring to portfolios.

Private Investments: Japan Buyouts Remain Attractive Despite Near-Term Macro Volatility

Sharad Todi, Senior Investment Director, Private Equity

Heading into 2025, buyout activity in Japan was on the rise, with the number of transactions reaching 162 in 2024, the highest level in a decade. Although the penetration level of private equity (PE) in Japan remains lower than in other developed markets, the country is emerging as a natural harbour for leveraged buyouts. We see reasons to remain positive on Japan buyouts now despite near-term macro volatility.

On the supply side, deal flow is likely to remain strong. First, several family-owned small- to medium-sized enterprises struggling to find natural successors are turning to PE firms to ensure business continuity. Second, large conglomerates in Japan are streamlining their operations by divesting non-core assets, creating opportunities for PE investors. Third, the Tokyo Stock Exchange’s demand for listed companies to justify their status by improving book value and capital efficiency ratios is also increasing take-private transactions. All these trends may be magnified by dislocations created by US tariffs.

On the demand side, investors are drawn to Japan for several reasons. Unlike most other Asian markets, control is the norm in Japan, allowing investors to shape the company’s journey more effectively. Valuations also remain attractive. According to Dealogic data, median EV/EBITDA multiples in Japan were 12.0x in 2024, compared to 14.4x for broader Asia, and Japan buyout managers can target even lower entry multiples of 10.0x or below. Plenty of low-cost debt is available, with most managers able to secure financing at 40% to 60% of enterprise value at an all-in cost below 4.0%. The terms of leverage are typically investor friendly, with banks being more relationship-focused and cooperative with borrowers dealing with struggling assets. Japan’s low economic growth rate drives corporates to pursue inorganic growth, making strategic buyers the preferred exit route for PE firms. Furthermore, Japan’s attractiveness as a private investment destination in Asia has increased as China’s appeal has waned, providing large pan-Asian funds a stable market to deploy capital. In addition, investors seeking currency diversification from the US dollar may benefit from a strengthening Japanese yen over the coming years.

All in all, we expect these broad macro trends should persist in the near term and lend support to buyout activity in Japan.

Asia Infrastructure: A Maturing Market with Growing Opportunities

Minesh Mashru, Global Head of Infrastructure Investments, and Derek Yam, Associate Investment Director, Real Assets

Asia-Pacific (APAC) is quietly gaining traction as an investment destination for infrastructure funds, supported by the region’s economic growth and demand for infrastructure spending. Historically, much of the region’s infrastructure capital had originated from global or emerging markets funds, while dedicated APAC infrastructure fundraising has been lumpy year to year. However, we view this should change going forward, given an improving regulatory environment and opportunity set, particularly in emerging Asia with increased deregulation and a relaxation of foreign control ownership rules.

APAC value-add and opportunistic infrastructure have the potential to deliver returns in the mid-teens and above, albeit requiring careful management and local knowledge. These strategies involve greenfield risks tied to development activities and operational complexities, as opposed to core infrastructure, which focuses on brownfield assets. The opportunities are broad based across developed Asia (i.e., Australia and Japan) and emerging Asia (i.e., India and Southeast Asia). However, given that Asian economies are more reliant on trade and, therefore, vulnerable to US tariffs, investors need to be discerning when investing in APAC infrastructure. Economically sensitive and trade-related segments, such as ports and logistics, may be especially impacted.

In the current environment, we favour sectors that are less exposed to trade while backed by strong fundamental demands. Data centers are one, given the region’s increased digitalisation and growing adoption of cloud computing. Current supply of data centers still lags the rapidly expanding demand by local enterprises, as well as hyperscalers seeking to expand their cloud service offerings across both traditional and secondary markets ¹ . Renewable energy infrastructure is also attractive, given low current penetration rates and a strong regulatory push towards decarbonisation. Opportunities range from regional solar assets across broader APAC to offshore wind farms in Taiwan, although an understanding of local regulations and onshoring requirements is key. The expansion of cross-border power trading in markets such as Southeast Asia has also bolstered the region’s renewable energy development.

In sum, despite the economic headwinds from US tariffs, we view there remains growing opportunities for APAC infrastructure, given the region’s maturing regulatory environment and structural tailwinds for infrastructure demand.

David Kautter also contributed to this publication.

Footnotes

1. Traditional markets include Tokyo, Sydney, Seoul, Hong Kong, and Singapore. Secondary markets include Mumbai, Johor, Jakarta, Kuala Lumpur, Bangkok, Ho Chin Minh, and Manila.

The post Asia Insights: Managing Risk Through Diversification appeared first on Cambridge Associates.

Gold’s performance this year has been exceptional, gaining 25% through April 23 close and surpassing the returns of other major asset categories. This surge has fueled bullish forecasts and renewed debate about gold’s role in portfolios. The rally has been underpinned by the Trump administration’s trade policies, which have heightened fears of a global economic slowdown, a rise in US inflation, and the potential for greater declines in the dollar. These risks have motivated investors to turn to gold as a potential hedge.

Historically, the dollar’s performance has had a negative correlation with gold. Since 2000, when the trade-weighted dollar has declined by more than 3% in a quarter, as it did in first quarter 2025, gold has averaged a 7% quarterly return. If the economic landscape deteriorates further due to protectionist policies, a decision by President Donald Trump to undermine the independence of the Federal Reserve, or some other issue, it could add pressure to the dollar and support greater flows to gold.

However, there are several key reasons why gold’s future performance could disappoint. First, gold recently touched its highest inflation-adjusted price ever, reaching $3,500 per troy ounce. This tops the real price that it reached in 1980. From these levels, gold’s momentum could be due for a reversal. History offers cautionary lessons after gold’s cyclical peaks: after surging during the stagflationary 1970s, gold lost 62% of its value in just 2.5 years when the Fed tightened policy. More recently, gold declined by 30% in 2012–13 after a rapid run-up during the Global Financial Crisis.

Second, much depends on the persistence of US political uncertainty and investor sentiment. If the Trump administration pivots toward more pro-growth policies, de-escalates tariffs, or restores confidence in the dollar, gold’s safe-haven appeal could diminish. In recent days, we have seen indications of US progress toward trade agreements with India and Japan, and signs that tariffs on China may be lowered. Moreover, recent bond market volatility appears to have prompted the Trump administration to adopt a more conciliatory approach on trade policy, likely in an effort to reassure investors and restore market stability.

Third, central bank demand may no longer provide the same structural support to bullion prices that supported gold’s rally in recent years. Central banks ramped up gold purchases around the time of Russia’s 2022 invasion of Ukraine, but buying has since stabilized at high levels. If this trend continues, ongoing central bank demand should still help underpin prices, though the market’s adjustment to higher purchase levels means the marginal impact of further buying is likely to be less significant than during the initial surge.

With gold now trading near record inflation-adjusted highs and bullish sentiment widespread, the risk of a significant pullback is elevated. History reminds us that rapid price gains can quickly reverse, especially if investor sentiment shifts or US policy uncertainty abates. For most investors, this may be an opportune moment to realize gains rather than initiate new allocations. For some investors—for instance those with significant unhedged US dollar exposures and liabilities denominated in another currency—it may be prudent to delay rebalancing gold allocations. Maintaining these positions could provide a hedge if uncertainty increases, though this approach may forgo some of the gains embedded in gold allocations within the portfolio. Ultimately, the decision to hold or trim gold should be grounded in a number of factors, including the asset owner’s currency exposures, risk tolerance, and other portfolio holdings.

Sean Duffin, Senior Investment Director, Capital Markets Research

Footnotes

1. Traditional markets include Tokyo, Sydney, Seoul, Hong Kong, and Singapore. Secondary markets include Mumbai, Johor, Jakarta, Kuala Lumpur, Bangkok, Ho Chin Minh, and Manila.

The post Is Gold’s Rally Sustainable? appeared first on Cambridge Associates.

Having outgrown its Eurozone peers in the 12 to 15 years since the Global Financial Crisis, continued US economic outperformance was unsurprisingly anticipated this year. As of the end of February, the consensus expectation for 2025 GDP growth was 2.3% for the United States versus 0.9% for the Eurozone. However, recent US tariffs have disrupted these forecasts, impacting global growth and inflation expectations. The growth impact outside the United States will depend on how long the announced tariffs are in place, the degree of demand destruction, and the extent of any retaliation. In contrast, the uncertainty for US businesses and consumers seems likely to weigh substantially on growth even before the direct impact of the tariffs is felt. As a result, growth expectations have converged, with latest forecasts projecting economic growth of 1.7% for the United States and 0.8% for the Eurozone this year.

Even before this, however, structural change was afoot within Europe. Germany’s pivot from fiscal orthodoxy to significant infrastructure and military spending, alongside the EU’s push for increased defense budgets, signal a proactive response to weak growth and geopolitical changes. At the same time, the Trump administration has vowed to reduce the US budget deficit. While the running deficit is actually up on the year so far, there appears to be limited room to meaningfully expand the current 6%+ deficit. Furthermore, the inflationary impact of tariffs in the United States may frustrate the swiftness and extent with which the Federal Reserve can provide support. By contrast, inflation in Europe is closer to target, while US tariff policy should prove disinflationary for the region. All told, Europe should have more policy flexibility to mitigate the impacts of the tariff regime. Therefore, further convergence in expected growth rates look more likely as the year progresses.

Consistent with this, the US equity market has underperformed its peers this year, with the challenge to US growth conditions from tariffs serving as the catalyst. However, it has not been just those sectors with the greatest direct exposure to tariffs that have underperformed the most, but also the most richly valued companies, which have a large weight in US indexes. Clearly, recent policy volatility is not consistent with the broadly accommodative macro conditions that are required to keep valuations near historically elevated levels. Despite recent declines, growth stock valuations remain elevated compared to the broader market. As a result, we continue to recommend that investors moderately tilt towards developed markets value equities, which offer a margin of safety. The resulting modest overweight to ex US equities reflects the growing importance of regional diversification as US capital attraction faces policy-driven challenges.

While there is some underlying diversity in US equity exposures, namely across different sectors (even if somewhat diminished recently) and globally derived revenues, one of the most concentrated exposures in many portfolios is the US dollar. Given the US weight in both public and private markets, as well as some alternative strategies, it is not uncommon for European portfolios to have an exposure of 40%–50% to the US dollar. Thus far, investors have been well served by their dollar exposure. It has both been in an uptrend for the past 14 years and acted as a partial hedge for portfolios, reliably rallying when risk assets declined. There are reasons to question whether these trends for the dollar will continue. As the US dollar valuation reapproached its most extended levels in recent months, we believed that growth and interest rate convergence between the United States and its peers was likely and presented downside risks for the greenback. We continue to hold this view, and now add to the list of drivers a potential structural reduction in demand for US assets prompted by evolving trade and geopolitical policies.

What’s more, the United States has been the source of the recent market volatility, with fears of its economic underperformance and foreigners’ desire to repatriate capital depriving the dollar of its risk-off qualities. If future bouts of volatility also originate from, or are centred on, the United States, it may continue to disappoint as a hedge. Similarly, it may turn out that recent US policy actions end up accelerating what has been the glacial erosion of the dollar’s dominant reserve currency status. Therefore, if in times of stress, foreign investors come to view the United States as a funding source, rather than a destination for capital, the dollar may behave differently than in times past. This, of course, is not pre-ordained, but the subjective probability has increased. For now, as the dollar remains the dominant currency of trade and account, it retains the capacity to appreciate in the event of a global dollar funding squeeze. A reversal in current tariff policy could also see the dollar gain some short-term support.

There is no one-size-fits-all approach to dealing with concentrated positions within portfolios. Broader diversification can help reduce risks tied to a single economy. Reducing overall US dollar currency exposure—whether through greater domestic currency investment or increased currency hedging—may also improve diversification, though each approach involves its own opportunity and explicit costs. Furthermore, such decisions cannot be taken in isolation, as they are inherently linked to other portfolio decisions, such as the size of safe-haven bond allocations and other diversifier allocations. Overall, awareness of exposures, understanding how they may behave in different environments, and diversifying those that present excessive risks remains key to prudent portfolio management.

Thomas O’Mahony, Senior Investment Director, Capital Markets Research

Footnotes

1. Traditional markets include Tokyo, Sydney, Seoul, Hong Kong, and Singapore. Secondary markets include Mumbai, Johor, Jakarta, Kuala Lumpur, Bangkok, Ho Chin Minh, and Manila.

The post US Policy Changes Highlight Need for Portfolio Diversification appeared first on Cambridge Associates.

Heading into 2025, historically low spreads on some higher-yielding credit instruments meant investors were not well positioned for recent tariff-related turbulence. At the end of 2024, the option-adjusted spread (OAS) on US HY bonds stood at 287 basis points (bps), in the bottom decile of historical observations. As a result, while the backup in spreads in recent weeks felt dramatic, it still leaves the current OAS (409 bps) below its historical median. A similar trend is evident in loans. The discount margin on BB-rated loans has widened by approximately 40 bps in 2025, but the current 297-bp spread is only around the 45th percentile of historical observations.

Investors considering increasing allocations to these assets should recognize spreads could go significantly higher if the economy enters recession. While the Global Financial Crisis may be an extreme level for comparison (HY spreads reached nearly 2,000 bps), during the past three recessions HY spreads averaged around 800 bps, around double today’s level. Another consideration is whether current pricing suggests HY bonds can keep pace with a comparable stock/bond mix. Our data suggest that buying HY bonds around current spreads (in the second quartile) has often resulted in underperformance relative to a stock/bond mix. Conversely, HY bonds have typically outperformed when spreads rise to the top quartile (around 585 bps or higher). Investors may be better off waiting for spreads to reach these higher levels before increasing allocations.

While the macro environment remains uncertain, there are positive arguments to be made in favor of US HY bonds and loans. Entering what may be a period of subdued growth, many HY issuers are in a position of relative strength. Rising revenue and earnings have allowed companies to gradually deleverage in recent years, and metrics like interest coverage ratios have shown steady improvement. Notably, today’s HY index consists of higher-quality borrowers than historically has been the case, which could provide a buffer if conditions worsen. Currently, ~53% of the HY index carries at least one BB rating, an 8 percentage point increase from a decade ago.

HY bonds and loans may also benefit from investors attracted to their higher coupons. The current HY bond index yield of 8.4% is around 170 bps above its average over the past decade. While broadly syndicated loan yields—currently around 9.0%—may also look enticing, we caution that this reflects lower average credit quality. Additionally, these instruments may see coupons decline if, as expected, the Federal Reserve resumes its rate-cutting cycle in 2025.

Given the uncertainty surrounding tariff-related volatility and concerns over foreign demand for US assets, investors should hold off on adding HY and loan exposure. Also, certain pockets within liquid credit already appear more attractive. One example is CLO mezzanine debt, which currently offers a discount margin of around 775 bps (equivalent to around a 11.5% yield). Historically, this asset class has suffered lower defaults than comparably rated HY bonds, though its lower liquidity can result in higher mark-to-market volatility. Due to the dispersion in underlying CLO fundamentals, we believe this asset class is best accessed via skilled managers.

In summary, HY bonds and loans have sold off in recent weeks, but from historically expensive levels. We recommend waiting for further clarity on the macro outlook or further pricing improvements before adding exposure to assets like HY bonds and loans. When conditions improve, investors contemplating adding to credit allocations should also consider CLO debt, which is currently more reasonably priced but may still face spread widening if tariff-related volatility escalates. Meanwhile, investors should maintain allocations to high-quality sovereign bonds, which should continue to provide critical portfolio diversification and stability amid ongoing macro uncertainty

Wade O’Brien, Managing Director, Capital Markets Research

Footnotes

1. Traditional markets include Tokyo, Sydney, Seoul, Hong Kong, and Singapore. Secondary markets include Mumbai, Johor, Jakarta, Kuala Lumpur, Bangkok, Ho Chin Minh, and Manila.

The post Should Investors Add to High-Yielding Credit Allocations, Given the Recent Rise in Spreads? appeared first on Cambridge Associates.

While we wait for the geopolitical and macroeconomic dust to settle, it is likely that private market transaction activity will slow down. Unfortunately, the anticipated slowdown could not be happening at a more inopportune time, as the ongoing distribution drought and short-term return underperformance have already been weighing on the private markets, dampening activity and sentiment, including fundraising. This pause is going to amplify all of these elements.

Compared to the public markets, private markets deliver far more comprehensive exposure to the economy, from start-up companies to established companies large enough to go public that have opted to stay private, and everything in between, across all sectors. It is possible that the impact of tariffs and other government actions, including second order effects, may be felt further and more deeply in the private markets due to this depth and breadth.

A market slowdown also means the managers waiting to deploy nearly $2 trillion of dry powder have time to absorb the changes and incorporate adjustments ahead of expected deployment. Given the risks outlined above to the capital “in the ground” (i.e., already invested), private investment managers are hyperaware of the need to generate competitive returns on their next set of investments. First and second order effects, as they take hold, could also create additional investment opportunities. Private strategies potentially positioned to benefit during this period include secondaries, deep value industrial, and distressed, among others.

We advocate maintaining private market allocations. Investors should assess their exposures by manager, strategy, company stage, sector, and geography, and prepare to make adjustments to benefit their portfolios. Dry powder may vary by investor, but that capital—at a minimum—will go to work in the market ahead, capturing whatever benefits the current situation may yield. On top of that, we recommend maintaining investment pacing and, therefore, exposure going forward. From a market-wide cash flow perspective, we have observed that capital calls tend to outpace distributions when activity in general contracts to one degree or another. Investors should monitor their private market portfolio liquidity requirements. Maintaining a long-term perspective, which is required for private investing, should serve as a focal point during this tumultuous period.

Andrea Auerbach, Global Head of Private Investments

Footnotes

1. Traditional markets include Tokyo, Sydney, Seoul, Hong Kong, and Singapore. Secondary markets include Mumbai, Johor, Jakarta, Kuala Lumpur, Bangkok, Ho Chin Minh, and Manila.

The post Private Markets Bracing for Tariff Impacts appeared first on Cambridge Associates.

In today’s dynamic environment, strategic thinking and flexibility are essential. This edition of VantagePoint revisits the core principles of best-in-class investment strategies, exploring how investors can allow wealth to compound by remaining disciplined, diversified, and focused on long-term opportunities while adapting to change. We explore the fundamentals of investment policy development, including conducting an enterprise review to understand investment goals and objectives, setting a flexible policy framework, and revising policies as needed. Additionally, we highlight best practices in portfolio construction and examine how investors can adapt their strategies to navigate today’s challenges and seize emerging opportunities.

Good Investment Policy Starts with Understanding Objectives and Constraints

Successful investors share a key trait: the discipline to adhere to a long-term strategy through both favorable and challenging times. However, there is no universal strategy that fits all. Each investor’s approach must be tailored to their unique return objectives, risk tolerance, financial constraints, investment expertise, time horizon, and resources.

The foundation of any investment plan begins with an enterprise review—a comprehensive evaluation of financial circumstances, risk attitudes, and governance considerations. This process clarifies objectives, constraints, and potential vulnerabilities, helping to mitigate surprises during crises. For institutions, this might involve assessing how asset pools support operating budgets or reliance on endowments. For families, it could mean prioritizing wealth building for future generations, current consumption, or philanthropic goals.

These priorities must also account for evolving portfolio requirements, particularly under stress. For example, institutions facing reduced government financial support may require more support from endowments, while higher interest rates may prompt pension sponsors to accelerate liability hedging as funding ratios improve.

Key considerations include operating liquidity, balance sheet flexibility, liabilities, debt structure, external liquidity access, cost structure, and income or revenue streams. Qualitative factors, such as stakeholder risk tolerance, are equally critical. Balancing short-term portfolio volatility with long-term purchasing power, addressing illiquidity constraints, and aligning with spending, debt management, and other priorities are essential to effective investment planning.

The Primacy of Policy

After completing the enterprise review, the next step is to develop an investment policy, including the formulation of a strategic asset allocation (SAA). An investment policy serves as a ten-year business plan, providing guiding principles and direction, while remaining flexible to adapt to evolving market conditions, assumptions, and execution. SAAs are not fixed anchors but dynamic frameworks that should be reviewed and refined periodically to account for long-term trends.

Historically, SAAs have regularly adapted to changing conditions as reflected in the median target policy allocations below. The most notable shifts have been large increases in target allocations to private equity and venture capital (PE/VC) that provide significant value-added return potential, funded primarily by reductions in public equities. By increasing these allocations, investors have been able to maintain high return expectations even as falling interest rates lowered return expectations for bonds.

Similarly, actual allocations across endowments and foundations in our database reflect sensible shifts. For example, as bond return expectations fell, investors reduced bond allocations and reallocated hedge fund exposures toward absolute return strategies less correlated with equity risk, while trimming equity long/short strategies.

In addition to adapting to capital market circumstances, changes in investment policy often reflect evolving circumstances, such as tax considerations, significant endowment gifts, or shifts in financial strength. Flexibility in portfolio targets and allocations is critical to improving the likelihood of meeting performance objectives as conditions change.

Investment policies should align with the investor’s philosophy and governance structure. Greater latitude for portfolio implementers (e.g., investment staff, outsourced CIOs, or advisors) and longer evaluation horizons typically require less detailed asset allocation policies, allowing for more flexibility in execution.

We begin building investment policy with a foundational framework, such as a 60% equities/40% bonds or 80%/20% volatility-equivalent profile. From this base, we seek opportunities to enhance returns, while maintaining or lowering risk. Some investors may define SAA simply as a stock/bond policy, while others incorporate more detailed categories based on asset classes, objectives (e.g., growth, diversifiers, liquidity reserve), or a hybrid mix. For example, growth assets may be divided into public and private investments. This level of detail fosters alignment among stakeholders, ensuring a shared understanding of objectives, risk parameters, and strategy. Strong governance and clear expectations help keep portfolios on track and aligned with the investment committee’s intent.

Best Practice Portfolio Construction Features

Successful investment strategies begin with a well-designed policy tailored to investor needs and flexible enough to adapt to changing market conditions. Whether through adjustments to SAA, implementation decisions led by portfolio management, or through external asset managers, the following best practices guide our approach to compounding wealth over time:

• Maintain a long-term horizon to capitalize on illiquid asset classes with more potential for value-added returns.
• Use external best-in-class managers and foster lasting partnerships.
• Diversify to enhance long-term risk/return characteristics beyond a simple stock/bond portfolio.
• Adopt contrarian positions with asymmetric return potential by investing in undervalued assets and dislocated markets.
• Define and manage key risks aligned with constraints and objectives identified in the enterprise review.

Playing the Long Game

Maintaining a long-term investment horizon is one of the most challenging yet essential aspects of successful investing. Understanding the historical behavior of markets helps investors set realistic expectations for portfolios and resist the impulse to sell assets or managers based on short-term underperformance. For example, a diversified portfolio with a nominal expected return of 10% and a standard deviation of 13% would see annual returns ranging from -3% to 23% two-thirds of the time. While short-term volatility is inevitable, the range of expected returns narrows over longer horizons.

A long-term perspective enables investors to access illiquid asset classes—such as
PE/VC—which offer greater value-added return potential compared to liquid, efficient public markets. As demonstrated below, the best-performing investors over the long term have consistently maintained higher allocations to these private investments.

Additionally, a long horizon also allows investors to capitalize on undervalued investments. Doing so requires a strong stomach; sharp market dislocations can be quick to reverse, but absent those, valuation disparities are often slow to revert to fair value. Thus, careful judgment is required to avoid value traps. In general, absent other criteria that may serve as catalysts, a seven- to ten-year horizon is advisable. Momentum is also a powerful force and can be a helpful supplement to identify turning points.

Sourcing Best-in-Class Managers

Even the best managers experienced a difficult period relative to passive benchmarks, especially in the large-cap US equity market, given the concentration of performance in the Magnificent Seven heavyweights in recent years. Greater dispersion of returns across stocks globally should increase the ability of skilled managers to outperform. We believe active management can outperform passive benchmarks, particularly in less efficient markets, if investors: 1) employ a rigorous manager research process, 2) exercise patience, and 3) build well-diversified portfolios to reduce unintended risks. Building outperforming portfolios using active managers is hard work but worth the effort.

Engaging in deep research to identify firms with a repeatable competitive edge and strong organization that can stand the test of time is far more relevant than analyzing short-term performance. As the technology and regulatory environments have leveled the playing field for accessing corporate information, managers must work harder to gain an edge. Technology acumen can provide an advantage, but managers must continually invest to maintain their lead. Experience and judgment also go a long way to set managers apart. From an organizational perspective, we advise partnering with firms that have good governance, thoughtful alignment, a strong culture, and a well-diversified customer base of a high caliber. Securing fee structures that enable investors to retain most of the value-added returns also increases the odds of earning excess returns over the long term.

Patience in active management is key, as even the best managers experience periods of underperformance. Behavioral mistakes, such as firing managers after short-term losses, can erode returns. Staying the course through cycles is essential for long-term success.

Dispersion of long-term returns varies by asset class, with more inefficient asset classes exhibiting greater dispersion across managers. The following exhibit shows the importance of manager selection, especially for private investments where manager return spreads are materially wider than for liquid, more efficient asset classes. ²

Sticking with Diversification

No one can argue with the fact that putting 100% of risk capital in US equities over the 15 years ended 2024 would have been a brilliant strategy. The MSCI US Index returned 13.9%, outperforming the MSCI All Country World Index by 4.1 percentage points (ppts) per year, in US dollar terms. However, such concentrated positioning is risky and subject to sharp reversals amid any change of fortune. Indeed, year-to-date through April 8, lofty valuations combined with prospects for implementation of the highest effective US tariff rates in more than 100 years have seen US equities underperform global ex US equities by roughly 12 ppts, in US dollar terms.

Diversification is a long-term strategy. While a simple portfolio may outperform periodically, a diversified portfolio is expected to generate higher returns over time at a given level of risk—the proverbial free lunch. To better understand the value-added potential of diversified portfolios, we compare the return profile of a simple portfolio of 70% global equities and 30% US government bonds to a highly diversified portfolio constructed to have roughly the same level of volatility as the 70%/30% portfolio. The highly diversified portfolio is expected to outperform the simple portfolio by 100 basis points (bps) over the long term, but could underperform by as much as 100 bps to 200 bps per year over shorter periods. Based on a conservative estimate using indexes to represent asset class returns, over periods of five years or longer ended in 2024, a representative diversified portfolio has outperformed the simple portfolio despite underperforming over the last three years.

The higher expected return for the diversified portfolio reflects the ability to earn incremental returns from various sources, including private investments and pursuit of more diverse market risks. Even after spending more over time, ³ highly diversified portfolios are expected to create more wealth through the benefits of compounding. This effect is particularly pronounced over longer horizons.

Tilting Tactical

Another lever that can be used to build returns is tactical asset allocation. This typically involves shorter-term horizon positions that require in-depth analysis, a disciplined process, and risk controls. To develop an investment thesis and exit strategy, it’s important to carefully analyze the historical relationship between the overweight and underweight positions and the environments in which the positioning tends to outperform. Positioning should be sized thoughtfully, scaled by the degree of risk inherent in the position. Ideal positions have higher upside than downside, which is usually derived by relatively attractive pricing for the overweight position. Market dislocations often provide opportune times for initiating tactical positions, so studying asset class relationships and being prepared to take opportunities when they arise is beneficial.

Measuring and Managing Risks

The fundamental purpose of risk management is to provide a clear path for risk assets to compound and build wealth over time. Understanding the portfolio requirements to meet associated spending and liabilities is critical to successful portfolio management. Effective portfolio construction requires identifying and managing risks—such as illiquidity, equity beta, total portfolio standard deviation, drawdown risk, and pension funding shortfall risk—directly, rather than relying on heuristics. For instance, not all public equity portfolios are equally liquid, with emerging markets small-cap and frontier markets equities among the least liquid and US large caps, among the most liquid. Key risks should be identified during the enterprise review and incorporated into investment policy. Management of these risks should focus on taking the right amount, not just limiting risk. Failure to take enough risk could result in underperformance.

Stress testing portfolios to evaluate their resilience under a range of challenging scenarios is a critical component of policy setting and ongoing risk management. The ability to navigate bear markets depends on several factors, including portfolio liquidity, diversification, liquidity needs during periods of stress, and access to external liquidity sources. Such assessments should be repeated regularly over time as conditions change. For example, investors have increased their equity exposure and portfolio illiquidity over the last decade. Understanding how these changes relate to any changes in liquidity requirements especially during times of stress is a core component of portfolio management.

For instance, as demonstrated below using a stylized portfolio reflecting index returns, a $500 million long-term investment pool entering a 2008-like bear market would have meaningfully less portfolio liquidity available to meet cash needs if it had a 50% allocation to illiquid assets compared to a 25% allocation, despite outperforming by about 5 ppts during the drawdown. A high allocation to illiquid assets may be desirable, particularly if the institution can construct a high-performing private investment portfolio. Sustaining such a high allocation requires careful attention to liquidity sources and uses.

The example below shows asset allocation changes before any assets are sold to support cash needs. The ratio of liquid assets including stocks and high-quality bonds to annual cash needs would be 3x, compared to 5x for the less illiquid portfolio. The relatively high allocation to high-quality bonds would have provided a lifeline for the more illiquid portfolio, covering nearly two years of cash needs. Higher cash needs would constrain the ability to maintain a high allocation to illiquid assets, while lower cash needs facilitate such positioning. As a general guideline, bear markets tend not to last longer than three years without recovery, so 3x coverage of cash uses with cash sources (inside and outside the portfolio) following a bear market decline is a reasonable target. Under conditions of limited liquidity, the ability to capitalize on market dislocations would largely depend on existing managers, a factor that should be carefully considered during portfolio construction.

Risk management also extends to implementation. Using external managers to add value requires understanding how individual managers interact and align with benchmarks. Unintended risks—such as geographic, currency, economic sectors, and factor exposures (e.g., value, momentum)—can undermine returns if not carefully managed.

Adapting to Change

Portfolios have historically evolved in response to long-term trends, such as US equity and dollar outperformance since 2010, falling interest rates since 1982, and declining geopolitical risk since the 1990s. These shifts have led to increased allocations to large-cap US equities, greater US dollar exposure, reduced fixed income, and fewer hedge funds. As we move through 2025, diversification is showing signs of renewed value, and investors must assess how their portfolios would fare in the event of a reversal of these trends. We review changing economic and market conditions on an ongoing basis, regularly sharing our views on investment implications. All of these long-term trends have potential to shift the investment landscape in unforeseen ways as they evolve and interact with each other. Indeed, the evolution of global trade conditions will influence fiscal and monetary policy, the ability of countries to finance their debt, and the cost and access to materials and technology to fuel AI developments. We focus here on key implications of the end of ZIRP, challenges and opportunities in private investments, and the role of AI. Other increasingly significant factors that can influence markets and investment outcomes include shifting global trade dynamics, geopolitical risks, and climate change. Investors should remain diversified and vigilant, and incorporate these considerations into their strategic planning.

The end of ZIRP has significant portfolio implications. Higher rates suggest improved fixed income returns, but investors must carefully evaluate credit risk. Weaker credits that borrowed short term with an expectation that rates would remain low indefinitely may find their balance sheets stressed. Indeed, the market sell-off has started to pressure credit spreads in some segments of the market. We would seek to take advantage of such opportunities once spreads reach more distressed levels, including through credit opportunity funds or distressed managers that have requisite experience through investing over prior distressed cycles. Strategies like asset backed lending and insurance-linked securities can help diversify away from corporate credit risk and offer attractive spreads.

We regard high-quality sovereign bonds, particularly US Treasury bonds, as the primary part of a deflation hedge or liquidity reserve allocation. However, we acknowledge that such bonds could come under pressure due to rising interest expenses and fiscal imbalances absent successful efforts to improve debt dynamics. Treasuries served their role well this year until this week, providing much needed ballast to portfolios. However, this week saw significant Treasury volatility for technical reasons, amid an unwinding of leveraged positions. The US dollar has been reasonably stable after initially softening this year. However, US dollar weakness may resume for several reasons including concerns over US growth prospects and the tarnishing of the US exceptionalism consensus that has poured capital into US capital markets over recent years. With prospects for more fiscal and monetary stimulus in the EU and China and heightened policy uncertainty in the US, diversified global equity allocations are more compelling. US Treasury bonds remain a core defensive asset, yet diversifying with other defensive assets like inflation-linked bonds and trend-following strategies can provide similar returns with stronger downside protection.

Higher rates also enhance the appeal of hedge funds. In the early 2010s, endowments and foundations allocated nearly 25% of portfolios to hedge funds, a figure which has since dropped to 16%–17%. Equity long/short hedge funds (ELS) saw the largest decline, but we anticipate a brighter future for these strategies. Higher rates improve returns on collateral, short rebates, and equity dispersion, creating opportunities for skilled stock selection. Disruptive trends—such as shifting global trade relationships, advancements in AI, and the energy transition—are likely to sustain this dispersion, benefiting active managers with strong shorting capabilities. While the HFR Equity Hedge Index still underperformed long-only global equities in higher rate periods, equity dispersion provides the opportunity for strong manager selection to close the gap. Indeed, what matters is achieving equity-like returns over the investment cycle, not matching equity returns in any one period.

And of course, higher rates pose challenges for leveraged strategies like buyouts, requiring general partners to focus on improving operating margins and revenue growth to offset higher capital costs. While valuations remain elevated, they have moderated from ZIRP-era highs.

More broadly, we expect private investment performance to improve as the impact from funds’ rapid deployment of capital into overvalued assets in 2021–22 recedes. Current conditions will likely see some improvement in relative performance as market corrections have a lagged and muted impact on private investments relative to public markets. Yet, the widely expected improvement in IPO and merger & acquisition prospects may need to wait as the current environment is not conducive to improvement in the exit environment. These conditions are ripe for bringing attractive buying opportunities in the secondary market.

Disciplined investors should not be deterred by the recent underperformance of PE/VC relative to public markets. Private markets continue to offer compelling opportunities, particularly for managers with strong operational expertise. The advantages of operating outside the public market’s quarterly reporting pressures remain intact. However, investors should be mindful of the growing retail interest in private investments, which could lead to crowding at the larger end of the market. Further, investors must be exceptionally discriminating if considering investing in supersized funds, given the significant revenue to these managers through management fees relative to carry and the greater difficulty in delivering top quartile returns with very high assets under management. In private investments, effective implementation is critical to generating value-added returns that justify the illiquid, long-term exposures and the significant resources required for success.

Technological advances in AI have potential to create significant value across all sectors over time. To date, much of AI’s impact has been concentrated in public companies—namely chipmakers (e.g., Nvidia, Taiwan Semiconductor) and hyperscalers (e.g., Amazon, Alphabet)—and venture capital. Over time, opportunities will expand as AI integrates into broader industries. Private equity strategies can leverage AI to unlock value in low-margin businesses, while public companies across sectors—such as security, data analytics, and software—will increasingly adopt AI tools. Hype around generative AI’s capabilities has lifted valuations in the near term, but longer term, the transformative potential of AI underscores the importance of staying attuned to technological developments.

Conclusion

In the face of uncertainty, the investment planning process should embrace humility and avoid the pitfalls of overconfidence. For high total return–oriented investors, our approach combines the stability of a predominant allocation to equities and equity-like investments with a diversified and flexible approach. While the aggregate allocation to these growth-oriented assets should remain relatively constant, their composition should be diversified and adaptable, evolving in response to attractively valued opportunities and focusing on identifying best-in-class managers. Without adequate diversification, portfolios risk becoming overly concentrated and excessively volatile. Similarly, diversifying assets should encompass a range of strategies, with allocations shifting toward the most compelling opportunities as they arise.

For taxable investors, the cost of adjusting asset allocations can be significant, shaped by factors such as trust structures, tax status, and the availability of losses to offset realized gains. As a result, any shifts in asset allocation should be carefully evaluated, ensuring that the expected benefits outweigh the associated costs.

In a world defined by shifting economic regimes, technological disruption, and evolving market dynamics, investors must embrace a strategic, flexible, and forward-looking approach to portfolio construction. By adhering to core principles—such as maintaining discipline, embracing diversification, and managing risks thoughtfully—investors can navigate uncertainty and capitalize on emerging opportunities. Adapting to change is not just a necessity but a competitive advantage, enabling investors to build resilient portfolios that align with their long-term objectives. As the investment landscape continues to evolve, those who remain vigilant, innovative, and committed to their strategy will be best positioned to succeed.

Celia Dallas, Chief Investment Strategist
Grayson Kirk and Graham Landrith also contributed to this publication.

Footnotes

1. Traditional markets include Tokyo, Sydney, Seoul, Hong Kong, and Singapore. Secondary markets include Mumbai, Johor, Jakarta, Kuala Lumpur, Bangkok, Ho Chin Minh, and Manila.
2. Comparisons of private investments and public investments are not quite apples-to-apples. We show private investment manager returns using horizon returns based on internal rates of return and compare them to time-weighted returns for liquid investments. While imprecise, the analysis is directionally correct and consistent with our investment experience.
3. We assume both portfolios have a beginning market value of $100 million and spend 5% of a 12-quarter moving average of ending market values.

The post VantagePoint: Strategic Portfolio Construction in a Changing World appeared first on Cambridge Associates.