There are, as they say, two sides to every story. As we head into 2023, we think that’s a useful lens for viewing the world’s macro and market challenges: While they present real headwinds for some traditional assets, they may create a host of opportunities for alternative investment allocations.

1. It’s a world of macro volatility — While there have, of course, been ups and downs in growth and inflation, the global economic environment has been relatively stable over the past 25 years or so. But as evidence mounts that inflation is likely to be structurally higher going forward, we expect greater levels of macro volatility, a result of varying policy responses and cyclical outcomes by region and country. In 2022, Japan, Europe, the US, and China each chose different policy paths, for example, driving movements in currencies, interest rates, and asset prices. We expect more such macro volatility in the coming year, which could make beta investing difficult. On the other hand, macro hedge funds may be well-suited for this environment. As our colleagues wrote recently, macro strategies look across various liquid asset classes for long and short opportunities that “develop at the intersection of prevailing economic conditions and current market pricing.”
2. It’s a world tied to a single central bank decision — A shorter-term challenge asset owners face at the moment is that the performance of many asset classes is closely tied to a single question: When will the Fed pivot away from its current tightening cycle? The outlook for the equity, rates, credit, and commodities markets depends to a great extent on the answer, meaning that a multi-asset portfolio may be sorely lacking in diversification potential. On the other hand, alternatives that aren’t betting on this one macro outcome and instead focus on idiosyncratic opportunities may offer more uniquely diversifying return streams. And there appear to be ample idiosyncratic opportunities at hand, from the policy divergence noted above to relative-value opportunities in equities and credit as companies and sectors confront higher inflation, rising rates, and slowing growth. 
   
3. It’s a world where fundamentals matter more — We’re no longer in an era of boundless central bank liquidity that helped to “float all boats.” Companies face a much higher cost of capital and a tougher economic backdrop (driven not just by cyclical conditions but by secular trends too, including deglobalization). The flip side of this reality is that we should see greater differentiation between companies, with more explicit winners and losers. That should expand the opportunity set for alternative strategies driven by security selection, including long/short equity and credit strategies.
   
4. It’s a world in need of new sources of downside mitigation — With inflation and rising rates dominating headlines, stocks and bonds both struggled in 2022, reversing the key risk-mitigating relationship in most portfolios. As noted recently, there may well be times going forward when bonds can’t promise the downside protection they’ve often provided in equity drawdowns. One potential solution is to use certain hedge funds, including macro and relative-value funds, as building blocks for a portfolio that can help fill the same diversification and downside protection roles as traditional fixed income allocations. Our Fundamental Factor team has done a deep dive on this topic, which you can find here.
   
5. It’s a world where public markets are weighing on private markets — When public markets are down, it often puts pressure on private markets, leaving private capital more scarce. Why? As asset owners find themselves overweight privates given declines in their public market holdings, they may pull back on new commitments. The good news for those who remain invested: With less capital chasing opportunities, private market returns may be stronger in coming years. What’s more, lower valuations may mean a more attractive entry point for investors — especially those with a longer time horizon.