MY DEALER SERVICESALTERNATIVES IN A MULTI SECTOR PORTFOLIO26 SEPTEMBER 2014

Brian Long – Head of Wealth Management

Representative of Mercer Investments (Australia) Limited ABN 66 008 612 397 AFSL #244385

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PRESENTATION SUMMARY

Challenges of the post GFC economic environment

Introduction to alternative asset classes

Hedge Funds and the rationale for including them in client portfolios

Relative performance

How to communicate Absolute Return Portfolio to Clients

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PORTFOLIO CONSTRUCTION PRE GFC

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YOU NEVER KNOW WHAT’S ON THE OTHER SIDE OF THE HILL

PERIODIC TABLE OF ANNUAL AUSTRALIAN INVESTMENT RETURNS

MERCER 5

WORLD ECONOMIC GROWTH IS HAPPENING BUT IT IS WEAK…

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What’s the implication?Our focus on portfolio diversification is essential to balance changing investment risks

USEconomic recovery continuing, tapering,

debt ceiling uncertainty

AustraliaMore closely linked to

China than the US

EuropeDeflationary risk

ChinaGrowth being allowed to

slow.

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Disinflation

Cash BondsProperty

Equities

0

Rea

l Ret

urn

Pro

file

Inflation

Bonds

EquitiesCash

Property0

Rea

l Ret

urn

Pro

file

Stagflation

EquitiesBonds Property

Cash0

Rea

l Ret

urn

Pro

file

Deflation

Property Equities

Cash

Bonds

0

Rea

l Ret

urn

Pro

file

…AND ASSET CLASS BEHAVIOUR WILL CONTINUE TO BE VOLATILE

INTRODUCTION TO ALTERNATIVE ASSETS

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In 2013, Mercer conducted 150 Alternativessearches for 9 Billion in assets placed.

MERCER & ALTERNATIVES

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ALTERNATIVE ASSETS ARE WELL ACCEPTED AND ARE GAINING TRACTION

30%

25%

20%

15%

10%

5%

0% o

f Pen

sion

Fun

d A

lloca

tion

2003 2013

Australia

2003 2013

UK

2003 2013

US

2003 2013

Canada

Real Estate as a % of Total Portfolio

Alternatives (ex-real estate) as a % of Total Portfolio

Source: Australia: Rainmaker; Canada: PIAC; UK: WM; US: Callan Associates

EndowmentHedge Funds

Domestic Equity

BondsForeign Equity

Private Equity

Real Assets

Cash

Harvard 18% 11% 11% 22% 13% 26% -3%

Yale 25% 10% 4% 15% 20% 29% -4%

Avg. Education Endowment

22% 22% 12% 20% 9% 14% 2%

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DEFINITION OF “ALTERNATIVE INVESTMENTS”

Mercer considers alternatives to be:

• Alternative approaches to traditional assets (e.g. long / short equities)

• Traditional approaches to alternative assets (e.g. infrastructure)

Other definitions include:

• Non-traditional asset classes, anything outside bonds, shares and cash.

• Funds that focus more on alpha than beta (skill based)

• Funds that allow shorting

• Funds that focus on absolute return

• Funds with unconstrained benchmark

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WHAT ARE ALTERNATIVE INVESTMENTS USED FOR?

HEDGE FUNDS AND THE RATIONALE FOR INCLUDING THEM IN CLIENT PORTFOLIOS

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MERCER

HEDGE FUNDS - TWO COMMON STEREOTYPES…

Cowboys?

Mad scientists?

OR

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MERCER 14

HEDGE FUNDSARE THEY REALLY RISKY?

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HEDGE FUND HISTORY

Year Event

1949 First hedge fund established by Alfred Winslow Jones

1968 SEC estimates approximately 140 hedge funds in existence

1988 SEC identifies approximately 2,700 hedge funds

1990sYale and Harvard endowments pioneer use of hedge funds by large institutions

1998Hedge funds feature prominently in news due to implosion of Long-Term Capital Management

2000s Strong hedge fund demand by institutional investors

2008 Madoff (the original Ponzi scheme!)

2011 Estimated 10,000 hedge funds worldwide

2014 Hedge funds comprise estimated $2.6 trillion of assets

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TYPES OF HEDGE FUND INVESTMENTSAND A BROAD RANGE OF RISKS TAKEN

Relative Value Convertible Arbitrage Fixed Income Arbitrage Statistical Arbitrage Equity Market Neutral

Event-Driven Merger Arbitrage Distressed Securities

Opportunistic Global Macro Managed Futures / CTA Long/Short Equity Hedge Short Selling Emerging Markets Sector Funds

Lower Risk Higher Risk

“Multi-Strategy funds are characterized by their ability to dynamically allocate capital

among strategies falling within several traditional hedge fund disciplines”

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HEDGE FUNDS HAVE PERFORMED WELL OVER LONG PERIODS

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MERCER 1819 April 2023

WHY ALLOCATE TO HEDGE FUNDS?Hedge Funds have delivered equity-like returns over 20 years…

Data sources: Hedge Fund Research, Inc, Bloomberg

MERCER 1919 April 2023

WHY ALLOCATE TO HEDGE FUNDS?... with significantly lower volatility…

Data sources: Hedge Fund Research, Inc, Bloomberg

MERCER 2019 April 2023

Data Source: Hedge Fund Research, Inc

WHY ALLOCATE TO HEDGE FUNDS?... and selected strategies have offered a low correlation with global equities

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INDIVIDUAL HEDGE FUND STRATEGY PERFORMANCE

Source: Credit Suisse Hedge Index LLC.

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ALTERNATIVES ARE AMONG INVESTMENT RETURN “BUILDING BLOCKS”Looking to get a return above cash or risk free assets

• Core beta

– Traditional, liquid, capital market risk premia, for example, ERP, credit, term

– Equities, Bonds, Cash

• Scarce beta

– Non-traditional risk premia, for example, illiquidity, insurance risk, regulatory risk

– Infrastructure, Private Equity, Timber, Insurance-linked Securities

• Alpha (return from skill)

– Non-directional hedge funds

– Alpha component of traditional active strategies

• Opportunistic

– Short to medium term exposures to any of the above

– Informed by DAA views

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• The heat map below shows the factor risk exposure of typical underlying asset classes. In particular we identified two asset classes we believe would improve the diversification of the model portfolios: Macro/Managed Futures and Multi Strategy. We were specifically are attempting to avoid Equity Risk Premium

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ALTERNATIVE PORTFOLIOS

    Quantitative Return Drivers

 Equity Risk

PremiumSmall Cap Premium

Emerging Mkt

Premium

Credit Risk Premium

Unexpected Inflation

Term Premium

Illiquidity Premium

Non-Corporate

GDP Growth

Alpha Other

                       

Equities

Developed Large Cap High               Moderate  

Minimum Volatility High Moderate             Moderate  Emerging Markets High   High           High  Developed Small Cap High High             High  

Fixed Income

Cash                    Sovereign Fixed Income (Domestic)

          High        

Sovereign Fixed Income (Foreign)

      Some   High        

Sovereign Inflation-Linked         High High        

Credit - Investment Grade       Moderate   High Some      

Credit - High Yield       High   High Some      Credit - Short duration high income

      High     Some   Moderate  

Emerging Market Debt Moderate   Some     High Moderate   Some  

Real Assets

Infrastructure - Listed High         High        

Infrastructure - Unlisted Core Some     Some High High High Moderate Moderate  

Real Estate - Unlisted Core       Moderate High   High High    Real Estate - Listed High     Moderate High          

AlternativesMacro / Managed Futures Some Some       High     High  

Multi Strategy   Some   Moderate   Some Some   High  

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SAMPLE ANALYSIS – DOWN YEAR MARKETSComparison balanced portfolio with alts versus balanced portfolio without alts

Performance of market indices weighted to each SAA (before fees)

Balanced 1 Year Returns (gross)

FY Year With Alts Without Alts

2008 -8.7% -9.6%

2009 -9.0% -11.6%

2012 2.1% 1.4%

Mercer Sector Survey Median returns (net fees - investment management only) weighted to each SAA

Balanced 1 Year Returns (net fees)

FY Year With Alts Without Alts

2008 -8.2% -9.9%

2009 -11.0% -12.1%

2012 2.0% 1.0%

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Benchmarks used for the analysis: 

-    S&P/ASX 300-    MSCI World ex Australia (unhedged)-    FTSE EPRA/NAREIT Global (hedged)-    UBS Global Infrastructure and Utilities Index (hedged)-    Hedge Fund Research Fund of Fund Index $A-    UBS Composite Bond Index-    Barclays Capital Global Aggregate Bond Index (hedged)-    UBS Bank Bill Index

Mercer Sector Survey used for the analysis: -Median of the Wholesale-Equity - Australia - All Cap Universe-Median of the Wholesale-Equity - Global - Large Cap Universe (unhedged)-Median of the Global REIT (Australian Investors) Universe (hedged)-Median of the Global Listed Infrastructure (Australian Investors) (hedged)-Median of the Wholesale-Hedge Funds / Absolute Return - Global-Median of the Wholesale-Fixed Income - Australia - Core -Median of the Wholesale-Fixed Income - Global - Core (hedged)-Median of the Wholesale-Cash - Australia Universe

COMMUNICATING HEDGE FUND INVESTMENTS TO CLIENTS

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MERCER

WHY WE HAVE ADDED HEDGE FUNDS AS A SMALL PART OF YOUR PORTFOLIO

• The global economy is in for a long period of low growth

• This necessitates a different way of investing than in the past

• There will be more shocks and rallies occurring in the next economic cycle than experienced prior to the GFC

• We do need to increase the level of insurance / protection in our portfolios

• Sovereign bonds do not perform this function reliably any more

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MERCER

WHY WE HAVE ADDED HEDGE FUNDS AS A SMALL PART OF YOUR PORTFOLIO

• Hedge funds have different “drivers of return” than traditional assets (equities and bonds) and can over the course of a market cycle can reasonably be expected to cushion the impact of increased bond yields and equity market corrections

• Hedge funds are well understood and are used by many institutional and professional investors

• It is generally necessary to be prepared to forgo some upside in order to have a level of protection from downside risks at a vey modest price

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MERCER

ALTERNATIVES……….HANDY TO KEEP IN YOUR PORTFOLIO

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IMPORTANT NOTICES

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• References to Mercer shall be construed to include Mercer LLC and/or its associated companies.• This contains confidential and proprietary information of Mercer and is intended for the exclusive use of the parties to

whom it was provided by Mercer. Its content may not be modified, sold or otherwise provided, in whole or in part, to any other person or entity, without Mercer’s prior written permission.

• The findings, ratings and/or opinions expressed herein are the intellectual property of Mercer and are subject to change without notice. They are not intended to convey any guarantees as to the future performance of the investment products, asset classes or capital markets discussed. Past performance does not guarantee future results. Mercer’s ratings do not constitute individualised investment advice.

• Information contained herein has been obtained from a range of third party sources. While the information is believed to be reliable, Mercer has not sought to verify it independently. As such, Mercer makes no representations or warranties as to the accuracy of the information presented and takes no responsibility or liability (including for indirect, consequential or incidental damages), for any error, omission or inaccuracy in the data supplied by any third party.

• This does not constitute an offer or a solicitation of an offer to buy or sell securities, commodities and/or any other financial instruments or products or constitute a solicitation on behalf of any of the investment managers, their affiliates, products or strategies that Mercer may evaluate or recommend.

• For the most recent approved ratings of an investment strategy, and a fuller explanation of their meanings, contact your Mercer representative.

• For Mercer Investments conflict of interest disclosures, contact your Mercer representative or see www.mercer.com/conflictsofinterest.

• Mercer universes: Mercer’s universes are intended to provide collective samples of strategies that best allow for robust peer group comparisons over a chosen timeframe. Mercer does not assert that the peer groups are wholly representative of and applicable to all strategies available to investors.

• The value of your investments can go down as well as up, and you may not get back the amount you have invested. Investments denominated in a foreign currency will fluctuate with the value of the currency. Certain investments carry additional risks that should be considered before choosing an investment manager or making an investment decision.

• This presentation is not for distribution to retail investors. • This presentation has been prepared by Mercer Investments (Australia) Limited (MIAL) ABN 66 008 612 397, Australian

Financial Services Licence # 244385.• Copyright 2013 Mercer LLC. All rights reserved.

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