President-elect Donald Trump’s proposed policies represent a potentially sharp departure from the current policies of the Obama administration. As a result, investors are contemplating what the Trump presidency will mean for the direction of the US economy, as well as the subsequent implications for real estate markets.

While we are unlikely to gain clarity on the substance and priority of policies until Mr. Trump’s first 100 days in office, the checks and balances in the US legislative system — coupled with the slim Republican majority in the US Senate — make it unlikely that Trump would see all of his proposals passed into law in their current form.

With this in mind, we at Invesco Real Estate do not expect to change our general approach to real estate investing in the US or elsewhere. Real estate is a long-term asset class based on relatively stable income derived from relatively long-term contractual leases, and any changes that might occur as a result of policy shifts are really at the margin.

However, at this advanced stage of the economic and real estate cycle, we have already taken steps to position US real estate portfolios in preparation should any difficult times emerge. Our focus continues to be on real estate fundamentals: identifying sectors, markets and assets that we believe have the potential to deliver sustainable outperformance over the long term.

Key policies and potential impact on real estate under the incoming administration (based on pre-election policy positions):

1. Taxes cut, incomes potentially grow

• Retail: Tax cuts could spur consumer spending, particularly for high-end, experiential retail. However, broad impacts on retail may be limited given that most gains would be skewed to upper-income households.

2. Infrastructure spending increases

• Direct opportunities: Increased infrastructure funding could directly benefit infrastructure investors.
• Indirect opportunities: Enhanced accessibility established via infrastructure could make certain locations and assets more competitive.

3. Immigration policy becomes more restrictive

• Labor shortages with dual impacts: More restrictive immigration could potentially result in labor shortages and higher wages, particularly in the construction and building operations sectors.
• Impact on owners/investors: Labor issues could spur higher operating costs and could reduce net operating income.
• Impact on market fundamentals: Labor issues could also spur higher construction costs, which could limit new development and potentially bolster overall market fundamentals.

4. Trade policies become more restrictive

• Imports and port traffic slow: We could see a potentially negative impact on major distribution and logistics markets across the US in general, and port-oriented markets in particular.
• Production moves back to the US, helps low-cost manufacturing hubs: Markets in the South and Midwest would be the most likely to benefit. Production may be capital- rather than labor-intensive, so this may not be a broad job generator.

5. Health care/repeal of the Affordable Care Act

• Skilled nursing facilities: Payer incentives could push activity toward in-home care.
• Pharmaceuticals and research and development (R&D): If consumers are permitted to import low-cost prescriptions, US-based pharma production and R&D activities could suffer. Impact would be specific to locations with related exposures.
• Health care insurance hubs: Rescinding the Affordable Care Act could restructure the incentives that spurred consolidation of insurance companies this cycle in large, low-cost metropolitan areas (e.g., Dallas, Phoenix and Atlanta).

Key factors we are tracking in the early post-election period:

1. Federal Reserve rate changes: If prolonged market volatility does follow Mr. Trump’s victory, then the US Federal Reserve (Fed) could be more inclined to postpone a December rate hike until it has time to re-assess the direction of the macro economy. That said, the initial market reaction has been continued expectations for a December rate hike.

2. Federal Reserve leadership change: Trump has publicly alluded that he may replace Fed Chair Janet Yellen. This could add further near-term uncertainty to financial markets.

3. US dollar: The US dollar may well strengthen initially, which could be a further drag on US exports. Emerging markets, especially China and Mexico, may be hit the hardest relative to the US dollar given prospective trade policy.

4. Occupier trends: As we have seen in other periods of uncertainty, occupiers are likely to take a more tempered approach to leasing space in the near term. Longer-term, a material reduction in corporate tax rates could in time accentuate business growth and leasing, which would likely benefit the office sector most directly.

5. Capital flows: At this point, it is unclear how capital flows will trend. Again, near-term uncertainty may temper activity and heighten caution. For foreign investors, further strengthening of the US dollar may also influence activity. However, currency fluctuations appear to have had little impact on cross-border capital flows into the US thus far in this cycle.

6. Cap rates: Near-term risk aversion may result in investors becoming more focused on uber-core assets and locations. In contrast, cap rates for assets and locations viewed as “more risky” may move modestly higher if demand wanes. Cap rate widening could provide buying opportunities in the next-best asset quality tier after uber-core.

7. DC potentially at risk: If tax cuts are financed through federal spending cuts, then this could have an outsized impact on Washington, DC. However, this effect could potentially be offset if Trump increases military spending as proposed.

To reiterate, real estate is a long-term asset class based on relatively stable income derived from relatively long-term contractual leases, and our general approach to real estate investing is unlikely to change significantly. However, at this phase in the economic and real estate cycle, we have prepared our portfolios for the potential of challenging times ahead.

Our focus continues to prioritize real estate fundamentals: identifying sectors, markets and assets that we believe have the potential to deliver sustainable, long-term outperformance.

Important information

Blog header image: canadastock/Shutterstock.com

Investments in real-estate-related instruments may be affected by economic, legal or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small- and mid-cap companies, and their shares may be more volatile and less liquid.

Max Swango

Director of Product and Client Portfolio Management

Invesco Real Estate

Max Swango has been with Invesco Real Estate (IRE) since 1988.  For the last 18 years he has served as IRE’s Director of Product and Client Portfolio Management. He is responsible for developing and managing real estate investment strategies for Invesco’s diverse client base, as well as overseeing existing and new client and consultant relationships.

He spent the first 10 years with the firm in the Acquisitions group originating direct real estate investments. Those investments included acquisitions of existing properties, pre-sale commitments on to-be-completed properties, equity investments in development transactions, mortgages, participating mortgages, second participating mortgages and re-capitalization of existing partnerships. From 1995–1999, Mr. Swango oversaw the firm’s West Coast investment activity from its San Francisco office. That office is responsible for executing IRE’s investment strategy in the western United States for its institutional client portfolios.

Mr. Swango serves on the Editorial Advisory Board of the Institutional Real Estate Letter and is a member of numerous other retirement system industry associations, including PREA, SACRS, CALAPRS and TEXPERS. He holds a BBA degree with a double major in real estate and finance from The University of Texas at Austin. Mr. Swango has 28 years of real estate experience.

On Nov. 30, the Organization of Petroleum Exporting Countries (OPEC) reached an agreement to cut its crude oil output, marking the group’s first production cut in eight years. The details are still emerging, but key aspects¹ include:

• A cut of 1.2 million barrels per day (MMbls/d) from OPEC members, which would bring the group’s production total to 32.5 MMbls/d starting on Jan. 1, 2017.
• A possible cut of 0.6 MMbls/d from non-OPEC members (including about 300,000 barrels a day from Russia).
• The agreement will be valid for six months and then possibly extended.
• The Ministerial Monitoring Committee will be built in as part of the agreement.

It is important to note that this is a statement by OPEC, not a commitment. As such, the Invesco Energy Fund team is looking for evidence on the clarity of the cuts and compliance of the producing countries. These would be necessary for us to get more constructive about this agreement.

Higher oil prices needed to fuel industry investment

The OPEC agreement is a recognition of what we have been saying about the economics of the business — that oil-producing countries and companies are not profitable at recent oil prices of $45 a barrel, and the post-agreement market reaction is a reflection of that belief. West Texas Intermediate crude oil closed at $49.41 a barrel on Nov. 30, up 9.1% from its previous level.²

We believe the world oil market needs a much higher price to induce investment, and OPEC’s statement to the public emphasizes this point, noting that current market conditions threaten the economics of producing nations and have hindered critical industry investments over the past two years. These production cuts should help to reduce oil inventories sooner than expected (we believe perhaps in the first half of 2017) and should help to stabilize oil prices well above $50 per barrel, in our view (assuming OPEC compliance).

Invesco Energy Fund is potentially well-positioned to benefit from a rise in crude prices, as we are overweight in exploration and production (E&P) companies and underweight in integrated oil companies (which have activities across the energy spectrum, from exploration to pipelines to refineries).³ We also have select overweight positions in oilfield service companies,³ which we believe also potentially stand to benefit if OPEC’s announcement leads to more spending by E&P companies.

1 Source: OPEC

2 Source: US Energy Information Administration. Wholesale spot petroleum prices.

3 Based on holdings as of Oct. 31, 2016, versus the benchmark MSCI World Energy Index, which represents energy stocks in developed market countries.

Important information

Businesses in the energy sector may be adversely affected by foreign, federal or state regulations governing energy production, distribution and sale as well as supply-and-demand for energy resources. Short-term volatility in energy prices may cause share price fluctuations.

Commodities may subject an investor to greater volatility than traditional securities such as stocks and bonds and can fluctuate significantly based on weather, political, tax and other regulatory and market developments.

Norman MacDonald, CFA
Portfolio Manager

Norman MacDonald is a portfolio manager for Invesco Energy Fund and Invesco Gold & Precious Metals Fund. Mr. MacDonald joined Invesco in 2008 as portfolio manager for Invesco’s Canadian distributed sector mutual funds.

Mr. MacDonald began his investment career in 1994 at State Street Bank and Trust as a derivatives analyst. He later moved to Ontario Teachers’ Pension Plan Board, where he worked for three years in progressive roles from research assistant to portfolio manager. His next role was as a vice president and partner at Beutel, Goodman & Co. Ltd. Prior to joining Invesco, Mr. McDonald was a vice president and portfolio manager at Salida Capital Corp.

He earned a BComm from the University of Windsor and is a CFA charterholder.

Courtney Morris

Investment Analyst

Courtney Morris is an Investment Analyst for Invesco Fundamental Equities. Ms. Morris joined Invesco in 2013 as an investment analyst specializing in the energy sector.

Ms. Morris entered the industry in 2009 as an energy research associate at Credit Suisse Securities (Canada) Inc. Previously Ms. Morris held positions at KPMG LLP, where she worked four years in progressive roles from staff accountant to senior accountant.

Ms. Morris earned an MBA from Richard Ivey School of Business and a Bachelor of Administrative and Commercial Studies degree, specializing in finance and administration, from the University of Western Ontario. She is a Chartered Accountant.

 

As Invesco’s Alternatives Investment Strategist, one of my biggest areas of focus is educating people about alternatives. Based on my conversations with investors, its clear alternatives are an ongoing source of confusion for many. That’s why I was pleased to see that Morningstar has introduced a new alternatives tool¹ to help investors better understand the correlation and risk characteristics of the alternatives they are considering. Given Morningstar’s broad reach, I believe the new tool can only be helpful in educating investors about alternatives.

The Morningstar Style Box for alternative funds

Morningstar’s new alternatives tool leverages the familiar Morningstar Style Box that has long been used to analyze stock funds. But instead of showing the market capitalization and growth/value style of an equity investment, the alternatives style box charts the correlation and volatility of an alternative vis-à-vis global equities.

• The vertical axis charts the correlation of the alternative to global equities and is divided into three categories: high, low and negative.²
• The horizontal axis charts the relative risk of the alternative investment as compared to global equities³ and is divided into three categories: low, medium and high.⁴

Using the new tool

To demonstrate the new style box, I thought it would be helpful to chart the correlation and relative risk characteristics of the five alternative categories that make up Invesco’s Alternatives Framework. Both the framework and the style box analysis appear below.

Figure 1: Invesco’s Alternatives Framework

Figure 2: Alternatives Style Box for the five categories of Invesco’s Alternatives Framework⁵

Sources: Invesco and Morningstar. Correlation of the alternative investment with global equities, as defined by Morningstar. Relative risk divides the volatility (as measured by standard deviation) of the alternative investment by the volatility of global equities, as defined by Morningstar.

Conclusions of the analysis

In looking at the style box, I see several important trends:

• The alternative assets that make up the Inflation Hedging category have the same level of volatility as global equities (as indicated by its high relative risk), while offering some diversification benefits relative to equities (as indicated by its placement on the correlation axis).
• The alternative equity strategies in the Equity Diversification category have a high correlation to equities, but less volatility (shown by its medium relative risk score).
• The global investing and trading strategies within the Portfolio Diversification category offer low relative risk while providing diversification⁶ benefits through its correlation with global equities.
• The Fixed Income Diversification category has a moderate correlation to global equities, while at the same time having low relative risk.
• The relative value strategies, such as market neutral, within the Principal Preservation category offer both low correlation and low relative risk.

What doesn’t the style box tell us?

The new alternatives style box is, by design, a simple tool that illuminates key aspects of an alternative; it is not, and was not designed to be, a comprehensive tool. As a result, it does have its limitations. For example, I think it would be helpful to look at the correlation of alternatives in both up and down markets for equities. Additionally, from a risk standpoint, I would compare the maximum historical decline of alternatives to that of equities.

Another limitation of the style box is it does not speak to returns in general, nor returns in up and down markets in particular. I’ve written several times about how, on a historical basis, alternatives have underperformed equities during periods of equity strength and have outperformed equities during periods of equity weakness (For example, in a previous blog, “As equity markets normalize, alternative strategies may be worth considering”). Before investing in an alternative, I believe it is critical to examine and understand the performance of alternatives across different parts of the equity market cycle.

To help illuminate this point, I think it’s helpful to compare the average monthly return of an alternative to that of equities in both up and down months for equities. Such a chart appears below, and compares the average monthly performance of the various Invesco alternatives categories to that of equities during up and down months.

Figure 3: Alternatives have historically outperformed equities in down markets and underperformed in up markets

Source: StyleADVISOR, January 1997 – August 2016

Figure 3 helps illustrate the “tortoise and hare” relationship that has historically existed between alternatives and equities. Over the time frames shown, alternatives were a bit like the tortoise, taking a slow and steady approach by generating more consistent and less volatile returns than stocks. Stocks behaved more like the hare in that they generated both significant returns and also sharp losses. Figure 4 shows the performance of the entire period, including both up and down markets.

Figure 4: Alternatives and equity performance across up and down markets combined

Source: StyleADVISOR, January 1997 – August 2016

Three things to understand about alternatives

There are clearly a variety of tools available to help people better understand the nature of alternatives. At a minimum, I think the three key aspects of alternatives that investors need to understand are:

1. Return
2. Risk
3. Correlation

Morningstar’s alternatives style box helps reveal correlation and risk, while the above chart helps illuminate the historical nature of returns in up and down markets. Furthermore, both do so in a user-friendly way for investors, and help provide investors with a much-needed deeper understanding of alternatives.

1 This link leads to a site not affiliated with Invesco. It is provided for educational purposes only, and Invesco is not responsible for the content.

2 High is defined as having a correlation of 0.50 or greater. Low is defined as having a correlation of between 0 and 0.50. Negative is defined as having a correlation of less than 0.

3 Relative risk is calculated by dividing the volatility (as measured by standard deviation) of the investment by the volatility of global equities.

4 Low is defined as having one-third or less of the volatility of global equities. Medium is defined as having between one-third and two-thirds of the volatility of global equities. High is defined as having more than two-thirds of the volatility of global equities.

5 Source: StyleADVISOR, January 1996 – August 2016

6 Diversification does not a guarantee a profit or eliminate the risk of loss.

Important information

Blog header image: NIKKOS DASKALAKIS/Shutterstock.com

Correlation is the degree to which two investments have historically moved in relation to each other.

Volatility is a statistical measurement of the magnitude of up and down asset price fluctuations over time.

Standard deviation measures a portfolio’s range of total returns and identifies the spread of a portfolio’s short-term fluctuations.

Inflation hedging is represented by a 75% allocation to the FTSE NAREIT All Equity REIT Index and a 25% allocation to the Bloomberg Commodity Index. The 75%/25% split reflects Invesco’s belief that investors tend to invest in strategies with which they are more familiar.

Principal preservation is represented by the BarclayHedge Equity Market Neutral Index.

Portfolio diversification is represented by a 60% allocation to the BarclayHedge Global Macro Index and a 40% allocation to the BarclayHedge Multi-Strategy Index. Multi-strategy is underweighted in this example due to its potential overlap with global macro.

Fixed income diversification is represented by equal allocations to the S&P/LSTA US Leveraged Loan Index and the BarclayHedge Fixed Income Arbitrage Index.

Equity diversification is represented by the BarclayHedge Long/Short Index.

Equities are represented by the MSCI All Country World Index.

Past performance is not a guarantee of future results. An investment cannot be made in an index.

The FTSE NAREIT All Equity REIT Index is an unmanaged index considered representative of US REITs.

The Bloomberg Commodity Index is an unmanaged index designed to be a highly liquid and diversified benchmark for the commodity futures market.

The S&P/LSTA Leveraged Loan Index is a weekly total return index that tracks the current outstanding balance and spread over Libor for fully funded term loans.

The MSCI All Country World Index is an unmanaged index considered representative of large- and mid-cap stocks across developed and emerging markets.

BarclayHedge indexes reflect performance of hedge funds, not of retail investment strategies, and are used for illustrative purposes only solely as points of reference in evaluating alternative investment strategies.

• The BarclayHedge Equity Market Neutral Index includes funds that attempt to exploit equity market inefficiencies and usually involves being simultaneously long and short matched equity portfolios of the same size within a country.
• The BarclayHedge Global Macro Index includes funds that carry long and short positions in any of the world’s major capital or derivative markets.
• The BarclayHedge Multi-Strategy Index includes funds that are characterized by their ability to dynamically allocate capital among strategies falling within several traditional hedge fund disciplines.
• The BarclayHedge Long/Short Index includes funds that employ a directional strategy involving equity-oriented investing on both the long and short sides of the market.
• The BarclayHedge Fixed Income Arbitrage Index includes funds that aim to profit from price anomalies between related interest rate securities.

About risk

Alternative products typically hold more nontraditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

Alternative investment products, including hedge funds and private equity, involve a high degree of risk, often engage in leveraging and other speculative investment practices that may increase the risk of investment loss, can be highly illiquid, are not required to provide periodic pricing or valuation information to investors, may involve complex tax structures and delays in distributing important tax information, are not subject to the same regulatory requirements as mutual funds, often charge high fees which may offset any trading profits, and in many cases the underlying investments are not transparent and are known only to the investment manager. Alternative investment performance can be volatile. An investor could lose all or a substantial amount of his or her investment. There is often no secondary market for an investor’s interest in alternative investments, and none is expected to develop. There may be restrictions on transferring interests in any alternative investment.

Walter Davis

Alternatives Investment Strategist

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

Investors have been drawn to real assets in general and to real estate in particular due to the comparative stability and attractiveness of their income returns and the prospects for growth.
A recent heightening of capital market, political and geopolitical risk levels has resulted in a less certain outlook for investment assets broadly, including real assets. This may reinforce the attractiveness of real assets’ income potential, which is largely based on long-term contractual cash flows.

Three themes to watch in 2017

Presently, three themes dominate investors’ concerns about real assets for 2017: current prices, future performance and predictability in the light of political developments.

Prices. In many markets, the real estate yields/cap-rate spread over local long-term government bond yields are close to the long-term average spread. In Europe and parts of Asia Pacific, spreads as of mid-November were more than one standard deviation above the long-term average. This gives some comfort that, relative to other asset classes at least, real estate prices are not out of line. It also suggests that in a macro environment of modest inflation and low interest rates, there is little reason to anticipate an imminent or sharp upward movement in real estate yields/cap rates. Indeed, in much of the world, yields/cap rates seem at least as likely to remain stable or even to fall further first, which could result in upward pressure on prices.

Performance. In many ways, the outlook for future performance depends on the potential for growth in real estate net operating income. The outlook for market fundamentals gives some reassurance. Commercial real estate fundamentals remain robust in the United States and are strengthening in Australia, much of Continental Europe and a number of other countries. Demand has softened slightly in some developed markets recently, but supply remains broadly in line with demand and rents continue to trend upward. This should provide support to real estate returns, in our view.

Predictability. The future is inherently uncertain. This simple point has been brought home by the rising tide of populism that has swept across the world and poses a challenge to the established world economic and political order. Consequently, levels of political and geopolitical risk are elevated. The surprising result of the US presidential election has created uncertainty about key aspects of US economic policy and international relations that will only become clear over the next few years. The surprising result of the United Kingdom’s referendum on membership in the European Union has created uncertainty at the heart of the world’s largest economic group that is expected to last several years. In Asia Pacific, uncertainty lingers over the next stage for Abenomics in Japan or China’s political transition in 2017. This level of uncertainty has implications for real estate markets and for investment strategy.

Where we see opportunity

What does this mean for real estate opportunities in 2017? First and foremost, it is important to emphasize that despite the elevated levels of uncertainty, we at Invesco Real Estate do not expect to change our general approach to investing in the United States, the United Kingdom or elsewhere.

• Real estate markets. Our focus continues to be on real estate fundamentals, identifying sectors, markets and/or assets that we believe should deliver sustainable outperformance. We will monitor carefully the impact of any changes in economic policies on patterns of real estate demand to determine where current opportunities may become less attractive and where new opportunities may arise.
• Listed real estate stocks. Our focus will remain on well-capitalized companies with high-quality assets with the best potential to deliver sustainable outperformance over the long term. We will watch changes in valuations and outlooks closely and make any adjustments to our portfolios accordingly.

At this relatively advanced stage in the economic and real estate cycle, we had already taken steps to position our real estate portfolios in preparedness for potentially more difficult times, should they emerge. The heightened economic policy uncertainty as a result of the US election or the UK’s Brexit vote to leave the European Union merely reinforces this approach, so any changes are likely only to be at the margin to take advantage of changes in the nature of the new opportunities arising.

Policy questions linger in the US

What might be some of the changes to market fundamentals? In the US for example, although we believe the overall impact to real estate cash flows will be muted, based on President-elect Donald Trump’s pre-election policy stances, we think the following property sectors and markets are most likely to experience specific post-election adjustments in market fundamentals:

• Retail might benefit if proposed tax cuts spur consumer spending.
• Health care, particularly hospitals, might experience a negative impact from a reform of the Affordable Care Act (also known as “Obamacare”).
• Industrial, especially in coastal markets, may be negatively impacted if trade agreements are rewritten, causing a decline in imports and slowdown in port activity.

As investors in real assets, we find President-elect Trump’s proposals to increase investment in a broad spectrum of infrastructure assets to be one of the most interesting topics to arise during the campaign. It is one of the few areas of policy in which there appeared to be a broad consensus, which might make it easier to put into action. How this increased investment is implemented may create opportunities both for investors in infrastructure and master limited partnerships (MLPs) directly, but also indirectly for real estate investors as some buildings/locations may become more competitive as they become more accessible. We plan to monitor these changes very closely.

Keeping an eye on the capital markets

What can we expect from capital markets? Capital markets can be volatile and subject to rapid shifts in sentiment. Specific sentiment impacts from interest rate expectations and policy decisions may include:

• Uncertainty around a Trump administration’s specific policy choices and objectives may create short-term volatility as investor sentiment changes. This might trigger a short-term flight to the perceived safety of gold, the US dollar and hard assets.
• A change in Federal Reserve leadership and/or the direction of interest rate policy could have a direct and meaningful impact on cash flow discount rates and the value of real assets. For example, US-listed real estate investment trusts (REITs) traded at an estimated 8% discount to asset value as of November 2016.1Extreme price reactions to interest rate uncertainty may represent a buying opportunity.

Invesco Real Estate will stay current on the President-elect’s policy initiatives, the British and European Union negotiations over Brexit, and any other major political developments that may emerge around the world. We will assess both broad market and real estate fundamental impacts as they become more visible. To reiterate, real assets are a long-term asset class based on relatively stable income derived from relatively long-term contractual cash flows. Our focus continues to be on market fundamentals: Identifying companies, sectors, markets and assets that we believe have the potential to deliver long-term performance.

1 Source: Green Street Advisors

Important information

Blog header image: ImageFlow/Shutterstock.com

All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. This is not to be construed as an offer to buy or sell any financial instruments and should not be relied upon as the sole factor in an investment making decision. As with all investments there are associated inherent risks. Please obtain and review all financial material carefully before investing. Where the authors have expressed opinions, they are based on current market conditions as of November 2016 and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals. This does not constitute a recommendation of the suitability of any investment strategy for a particular investor.

Past performance is not a guarantee of future returns. An investment cannot be made in an index.

Diversification does not a guarantee a profit or eliminate the risk of loss.

Invesco does not provide tax advice.

In general, stock values fluctuate, sometimes widely, in response to activities specific to the company as well as general market, economic and political conditions.

Investment in infrastructure-related companies may be subject to high interest costs in connection with capital construction programs, costs associated with environmental and other regulations, the effects of economic slowdown and surplus capacity, the effects of energy conservation policies, governmental regulation and other factors.

Most MLPs operate in the energy sector and are subject to the risks generally applicable to companies in that sector, including commodity pricing risk, supply and demand risk, depletion risk and exploration risk. MLPs are also subject the risk that regulatory or legislative changes could eliminate the tax benefits enjoyed by MLPs which could have a negative impact on the after-tax income available for distribution by the MLPs and/or the value of the portfolio’s investments.

Investments in real estate related instruments may be affected by economic, legal, or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small and mid-cap companies and their shares may be more volatile and less liquid.

Standard deviation is a statistical measure of the range of returns. A high standard deviation indicates greater volatility of returns.

Invesco Real Estate is an investment center of Invesco Advisers, Inc.

Joe Rodriguez Jr.

Managing Director

Head of Global Real Estate Securities

Invesco Real Estate

In addition to portfolio management, Mr. Rodriguez is a managing director and the head of real estate securities for Invesco Real Estate, where he oversees all phases of the unit, including securities research and administration.

Mr. Rodriguez began his investment career in 1983 and joined Invesco Real Estate, the Dallas-based investment management affiliate of Invesco Institutional (N.A.), Inc., in 1990. He has served on the editorial board for the Financial Times Stock Exchange National Association of Real Estate Investment Trusts (FTSE NAREIT), as well as the editorial board of the Institutional Real Estate Securities newsletter. He is a member of the National Association of Business Economists, American Real Estate Society and the Institute of Certified Financial Planners. He has also served as adjunct professor of economics at The University of Texas at Dallas.

In addition, Mr. Rodriguez was a contributing author to Real Estate Investment Trusts: Structure Analysis and Strategy, published by McGraw-Hill. He made contributions as editor and author to several industry publications, and has been featured as a real estate expert by both financial industry print and television media such as CNBC and Bloomberg News.

Mr. Rodriguez earned a Bachelor of Business Administration degree in economics and finance as well as an MBA in finance from Baylor University.

Invesco Balanced-Risk Allocation Fund is an actively managed portfolio of strategically weighted stocks, bonds and commodities selected on the basis of their long-term return prospects, diversification potential and liquidity. In the video below, I discuss our strategy’s three goals to provide return potential and help defend against the type of significant losses that can derail an investor’s long-term objectives:

• Prepare — Invesco Balanced-Risk Allocation Fund is diversified to include assets that we expect to perform well at different stages in the economic cycle, even when equities struggle.
• Protect — Portfolio weights can be adjusted to pursue additional upside while seeking to protect long-term returns on the downside.
• Participate — By seeking to defend against major losses, the fund attempts to provide investors with a smoother path toward reaching their financial goals.

Learn more about Invesco Balanced-Risk Allocation Fund.

Learn more about high-conviction investing.

Read more blogs from our high-conviction investment managers.

Important information

Diversification does not guarantee a profit or eliminate the risk of loss.

Under normal conditions, the strategy invests in derivatives and other financially-linked instruments whose performance is expected to correspond to US and international fixed income, equity and commodity markets. However, the performance of the asset classes cannot be guaranteed. The derivative investments and enhanced investment techniques (such as leverage) used by the portfolio expose the fund to certain risks not generally associated with traditional securities. Commodities, derivatives and futures may not be appropriate for all investors. The fund is subject to certain other risks. Please see the prospectus for more information regarding the risks associated with an investment in the fund.

Scott Wolle, CFA

Portfolio Manager

CIO of Invesco Global Asset Allocation

Scott Wolle is the chief investment officer (CIO) and a portfolio manager for the Invesco Global Asset Allocation team, which invests in stock, bond and commodity markets worldwide.

Mr. Wolle joined Invesco in 1999 as an analyst and portfolio manager, and became a member of the Global Asset Allocation team in 2001. He assumed his current role in 2005. He began his investment management career in 1991 with Bank of America.

Mr. Wolle graduated magna cum laude from Virginia Tech with a degree in finance. He earned an MBA from the Fuqua School of Business at Duke University, with the distinction of Fuqua Scholar. He is a CFA charterholder.

As we enter 2017, there is a long list of issues that could affect alternative investments: policy changes in the US, elections in Europe, rising rate expectations and more. Given this changing landscape, I would like to highlight some alternative investments that I believe have the potential to benefit investors in the new year. In doing so, I’ll be using Invesco’s Alternatives Framework (see below) to identify strategies for each of the five alternative buckets.

Invesco’s Alternatives Framework

Alternative investments to consider in 2017

• Alternative assets: Commodities, MLPs and infrastructure — With the incoming Trump administration focused on economic growth, deregulation, business-friendly energy policy and infrastructure investment, alternative assets such as commodities, master limited partnerships (MLPs) and infrastructure could be poised to benefit. Commodities could benefit from increased inflationary pressure resulting from economic growth, as well as from increased demand for industrial commodities used to build infrastructure, while MLPs and infrastructure investments could benefit from increased construction and a more business-friendly energy policy. Invesco Balanced-Risk Commodity Strategy Fund, Invesco Global Infrastructure Fund and Invesco MLP Fund are examples of alternative asset funds that invest in these opportunities.
• Relative value strategies: Market neutral — There will likely be a great deal of political uncertainty in 2017, given new leadership in the US as well as important elections in France and Germany. Given the likelihood of this uncertainty, investors may want to consider market neutral funds. These funds are designed to neutralize the effects of overall market movements and to generate returns based on the movements of individual stocks.¹ Given their unique nature, market neutral funds may help insulate against market swings, have the potential to generate positive returns in all market environments, and may produce returns that have low correlation to stocks and bonds. Invesco Global Market Neutral Fund is an example of a typical market neutral fund, while Invesco All Cap Market Neutral Fund is an example of a more aggressive version of market neutral (i.e., it seeks higher returns in exchange for higher risk).
• Global investing and trading strategies: Global macro — Global macro funds invest opportunistically on a long and short basis across the global equity, fixed income, currency and commodity markets. These funds have the ability to select which markets they want, and don’t want, to invest in. And, because they can invest on both a long and short basis, they have the potential to achieve profits in both rising and falling market environments. I think 2017 could present global macro funds with numerous opportunities, especially given the potential for accommodative US fiscal and regulatory policy, and divergent monetary policy between the US and Europe. Investors looking for a strategy that can opportunistically trade across the global markets while offering potential diversification benefits should consider global macro funds, in my view. Invesco Global Targeted Returns Fund and Invesco Macro Allocation Strategy Fund are examples of global macro funds.
• Alternative equity: Long/short equity — Long/short equity funds combine long and short equity positions in a portfolio, while typically being net long to equities. As a result, these funds have a positive beta to equities, and performance tends to directionally follow the equity market. Two key differentiators across such funds are their inclusion of short positions in the portfolio and their typical net exposure to the market. I prefer long/short strategies that maintain a high net long exposure to equities and have demonstrated a proven ability to add value through their short positions during all parts of the market cycle (as opposed to only during periods of equity weakness). In my view, such strategies are well-positioned to provide equity-like exposure while offering the potential to outperform equities in both rising and falling equity markets (due to gains from their short positions). Investors looking for this type of opportunity might talk to their advisor about replacing some of their long-only equity exposure with exposure to a long/short equity fund. Invesco Long/Short Equity Fund is an example of such a fund.
• Alternative fixed income: Senior loans (also known as bank loans, senior secured loans and/or leveraged loans) — Investors looking to earn an attractive yield and benefit from rising interest rates should consider an investment in senior loans. Senior loans are loans made by banks to non-investment grade companies, often to fund leveraged buyouts, mergers and acquisitions. The loans are called “senior” because they are contractually senior to other debt and equity, and are typically secured by collateral. Given that the loans are made to non-investment grade companies, the yield associated with them tends to be higher than the yield for investment grade corporate bonds.2 Another key aspect of senior loans is that they pay a floating interest rate that resets every 30 to 90 days.3 This means that in a rising interest rate environment, as long as the rate rises above a predetermined minimum level, the investor will receive increased payments from the borrower. Invesco offers three different senior loan strategies for individual investors: Invesco Floating Rate Fund (which offers daily liquidity), Invesco Senior Loan Fund (which offers monthly liquidity) and PowerShares Senior Loan Portfolio (an exchange-traded fund).

For more information about alternatives

• To learn more about Invesco’s alternative strategies, please visit invesco.com/alternatives.
• You can also read previous blogs from Walter Davis, and ask Walter your questions about alternatives with our Ask the Expert feature.
• And, learn why it’s time to say goodbye 60/40 and to consider alternatives as more of your core.

1 Market neutral funds trade related equities on a long and short basis, such that the funds have close to a zero beta and close to zero net market exposure. In market neutral funds, the key to generating a positive return is security selection — determining which equities to go long and which to go short.

2 This is due to the increased credit risk associated with non-investment grade companies relative to investment grade companies.

3 Senior loans are usually priced relative to three-month Libor, with the lender receiving a fixed spread above the Libor rate. Therefore, as Libor rises, the amount paid by the borrower increases. Importantly, most loans have a provision that establishes a minimum, or floor, for Libor. Typically the floor rate is around 1%. As of Dec. 15, 2016, the three-month Libor rate was approximately 0.99%. Therefore, Libor would need to rise above the 1% floor before the investor would receive the benefit of rising interest rates.

Important information

Blog header image: ThamKC/Shutterstock.com

Correlation is the degree to which two investments have historically moved in relation to each other.

Beta is a measure of risk representing how a security is expected to respond to general market movements.

Diversification does not guarantee a profit or eliminate the risk of loss.

Alternative products typically hold more nontraditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

Commodities may subject an investor to greater volatility than traditional securities such as stocks and bonds and can fluctuate significantly based on weather, political, tax, and other regulatory and market developments.

Most MLPs operate in the energy sector and are subject to the risks generally applicable to companies in that sector, including commodity pricing risk, supply and demand risk, depletion risk and exploration risk. MLPs are also subject to the risk that regulatory or legislative changes could eliminate the tax benefits enjoyed by MLPs, which could have a negative impact on the after-tax income available for distribution by the MLPs and/or the value of the portfolio’s investments.

Investment in infrastructure-related companies may be subject to high interest costs in connection with capital construction programs, costs associated with environmental and other regulations, the effects of economic slowdown and surplus capacity, the effects of energy conservation policies, governmental regulation and other factors.

Most senior loans are made to corporations with below-investment grade credit ratings and are subject to significant credit, valuation and liquidity risk. The value of the collateral securing a loan may not be sufficient to cover the amount owed, may be found invalid or may be used to pay other outstanding obligations of the borrower under applicable law. There is also the risk that the collateral may be difficult to liquidate, or that a majority of the collateral may be illiquid.

Short sales may cause an investor to repurchase a security at a higher price, causing a loss. As there is no limit on how much the price of the security can increase, exposure to potential loss is unlimited.

The risks of investing in securities of foreign issuers can include fluctuations in foreign currencies, political and economic instability, and foreign taxation issues.

Walter Davis
Alternatives Investment Strategist
Invesco

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

Invesco All Cap Market Neutral is a high-conviction strategy that seeks to minimize investors’ exposure to market movements, and deliver returns that are generated from our stock selection ability. We believe this type of strategy helps to reduce equity market volatility, which is a concern for many investors. In this video, I outline several aspects of this strategy, including details about:

• The characteristics we look for when making investment decisions.
• How we attempt to mitigate risk.
• Why investors might consider market neutral strategies.

Learn more about Invesco All Cap Market Neutral Fund.

Learn more about high-conviction investing.

Read more blogs from our high-conviction investment managers.

Important information

Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested.

Short sales may cause the fund to repurchase a security at a higher price, causing a loss. As there is no limit on how much the price of the security can increase, the fund’s exposure is unlimited.

Stocks of small- and mid-cap companies tend to be more vulnerable to adverse developments, may be more volatile, and may be illiquid or restricted as to resale.

The fund is subject to certain other risks. Please see the current prospectus for more information regarding the risks associated with an investment in the fund.

Donna Chapman Wilson
Director of Portfolio Management
Portfolio Manager
Invesco Quantitative Strategies
Donna Chapman Wilson, Director of Portfolio Management, is a Portfolio Manager for Invesco Quantitative Strategies (IQS) US retail funds. She also serves as a member of IQS’s management team, with responsibility for strategic planning and direction.

Ms. Chapman Wilson has almost 20 years of experience in the investment management industry. She joined Invesco in 1997 and worked with the Fundamental Growth Equity teams before moving to the IQS team in 1999. Prior to joining Invesco, she held positions with J.P. Morgan, General Motors Asset Management, Mercer Investment Consulting and the Federal Reserve Board of Governors.

Ms. Chapman Wilson earned an MBA in finance from the Wharton School of the University of Pennsylvania and a BA degree in economics from Hampton University. She is a member of the Women’s Bond Club of New York and a founding member of the Invesco Women’s Network.

I like to say that a high-conviction approach means investing in ideas — ideas that span locations, currencies, asset classes and market sectors. This priority on ideas over assets informed the creation of Invesco Global Targeted Returns, a strategy comprising 20 to 30 long-term investment ideas within one risk-managed fund.

By finding independent sources of return, the fund emphasizes a flexible approach to long-term investing and seeks to minimize volatility. In the video below, I explain the methodology behind our strategy, including how we strive to:

• Identify and combine long-term investment ideas that will work together in a single fund.
• Manage risk to deliver a lower-volatility return over time.
• Introduce additional, independent return sources, beyond traditional stocks and bonds.

Learn more about Invesco Global Targeted Returns Fund.

Learn more about high-conviction investing.

Read more blogs from our high-conviction investment managers.

Important information

Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested. These risks are greater for the fund than most other funds because its investment strategy is implemented primarily through derivatives rather than direct investments in more traditional securities.

Commodities may subject an investor to greater volatility than traditional securities such as stocks and bonds and can fluctuate significantly based on weather, political, tax, and other regulatory and market developments.

Debt securities are affected by changing interest rates and changes in their effective maturities and credit quality.

The fund is nondiversified and may experience greater volatility than a more diversified investment.

Underlying investments may appreciate or decrease significantly in value over short periods of time and cause share values to experience significant volatility over short periods of time.

The fund is subject to certain other risks. Please see the current prospectus for more information regarding the risks associated with an investment in the fund.

David Millar
Head of Multi Asset, Invesco Perpetual

David Millar is head of the Multi Asset team for Invesco Perpetual. Mr. Millar joined Invesco in January 2013 and is based in Henley-on-Thames, outside of London.

After commencing his investment career with Scottish Widows in 1989, where he qualified as an actuary, Mr. Millar joined the Fixed Interest team at Scottish Widows Investment Partnership in 1996, becoming head of Bond Strategy and chair of the Bond Policy group. In 2008, he joined Standard Life Investments as an investment director of the Multi Asset investing team. He was one of the portfolio managers on their absolute return fund and was chair of their Bond Investment group.

Mr. Millar earned a BSc (Hons) degree in mathematical statistics from the University of Cape
Town and is a Fellow of the Institute and Faculty of Actuaries.

Invesco Perpetual is a business name of Invesco Asset Management Limited (IAML), an investment adviser. Invesco Distributors, Inc., Invesco Advisers, Inc. and IAML are each indirect, wholly owned subsidiaries of Invesco Ltd.

Many investors include commodities in their portfolio in an effort to hedge against inflation — but can they offer investors attractive long-term returns as well? We believe that potential exists, but it requires a deep understanding of each type of commodity, as well as a sharp focus on risk management.

Invesco Balanced-Risk Commodity Strategy Fund combines a focus on key near-term drivers and long-term return sources that seek to help investors capitalize during periods of inflation without sacrificing total return potential.

In the following video, I dive deeper into Invesco’s balanced-risk commodities strategy, including:

• Why I believe it’s easier to buy low and sell high with some types of commodities than with traditional stocks and bonds.
• The unique expertise and extensive research that informed our commodities strategy.
• How we work to mitigate risk through portfolio diversification and the use of less volatile commodity-linked instruments that differ from front month futures contracts.

Learn more about Invesco Balanced-Risk Commodity Strategy Fund.

Learn more about high-conviction investing.

Read more blogs from our high-conviction investment managers.

Scott Wolle, CFA

Portfolio Manager

CIO of Invesco Global Asset Allocation

Scott Wolle is the chief investment officer (CIO) and a portfolio manager for the Invesco Global Asset Allocation team, which invests in stock, bond and commodity markets worldwide.

Mr. Wolle joined Invesco in 1999 as an analyst and portfolio manager, and became a member of the Global Asset Allocation team in 2001. He assumed his current role in 2005. He began his investment management career in 1991 with Bank of America.

Mr. Wolle graduated magna cum laude from Virginia Tech with a degree in finance. He earned an MBA from the Fuqua School of Business at Duke University, with the distinction of Fuqua Scholar. He is a CFA charterholder.

A “long” position in a stock is designed to benefit when that stock’s price rises, while a “short” position is designed to benefit when a stock’s price falls. By including both types of positions in Invesco Long/Short Equity Fund, we seek to achieve positive returns in a variety of market conditions. In the video below, I explain how our strategy works.

• The portfolio pairs high-conviction stocks as long candidates with poorly ranked stocks as short candidates.
• When considering which stocks to invest in, we consider their potential returns as well as their risk.
• Overall, we have more exposure to long positions than to short positions. However, we can adjust the portfolio’s net long exposure to adapt to changing market environments.

Learn more about Invesco Long/Short Equity Fund.

Learn more about high-conviction investing.

Read more blogs from our high-conviction investment managers.

Important information

Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested.

Short sales may cause the fund to repurchase a security at a higher price, causing a loss. As there is no limit on how much the price of the security can increase, the fund’s exposure is unlimited.

The fund is subject to certain other risks. Please see the prospectus for more information regarding the risks associated with an investment in the fund.

Donna Chapman Wilson
Director of Portfolio Management
Portfolio Manager
Invesco Quantitative Strategies
Donna Chapman Wilson, Director of Portfolio Management, is a Portfolio Manager for Invesco Quantitative Strategies (IQS) US retail funds. She also serves as a member of IQS’s management team, with responsibility for strategic planning and direction.

Ms. Chapman Wilson has almost 20 years of experience in the investment management industry. She joined Invesco in 1997 and worked with the Fundamental Growth Equity teams before moving to the IQS team in 1999. Prior to joining Invesco, she held positions with J.P. Morgan, General Motors Asset Management, Mercer Investment Consulting and the Federal Reserve Board of Governors.

Ms. Chapman Wilson earned an MBA in finance from the Wharton School of the University of Pennsylvania and a BA degree in economics from Hampton University. She is a member of the Women’s Bond Club of New York and a founding member of the Invesco Women’s Network.

Nov. 9, 2016, was not only the day Donald Trump won the presidency; it was also the day that investors’ interest in infrastructure investments was reborn. Since President Trump was elected, expectations for a rebound in infrastructure spending have reached heights not seen in some time. Given President Trump’s purported $1 trillion infrastructure plan, there is reason to be excited. But we at Invesco Unit Trusts believe that having the proper context into what infrastructure represents today is key to successfully investing in the theme.

Expanding the definition of ‘infrastructure’

Infrastructure refers to assets that allow for the efficient operation of economies, and it is a driver of global gross domestic product (GDP). Traditionally, infrastructure has been divided into three categories: transportation, telecommunication and energy. However, our view is that a fourth category now exists: information technology (IT). Specifically, connectivity, cybersecurity, data centers and cloud-based applications have become critical to the ongoing operation of global economies.

In many ways, IT has always been a critical component of infrastructure. For example, which is more important to the cell tower — the steel frame or the communication chips inside of it? That’s a difficult question to answer. However, in recent years, we’ve seen IT take a more prominent role in infrastructure as capital expenditures for traditional infrastructure projects have slowed. IT has been used to extend the lifespan of existing investments, improve efficiency and boost return on investment.

We believe we are now at a point where IT has evolved from being supplemental to the infrastructure market to being integral. Information technology has become as important to the ongoing operation and growth of an economy as any road, cell tower or airport. In most cases, traditional forms of infrastructure are now reliant on different forms of technology — think of automatic tolling on highways, the computer systems within an airport’s flight tower, or how cell towers enable endless video streaming. By modernizing existing infrastructure investments with various forms of technology, value and efficiency have drastically improved on otherwise dated assets.

How Invesco Unit Trusts approaches infrastructure investing

That being said, we don’t see the traditional view of infrastructure and our modernized definition as mutually exclusive. Quite the opposite. We believe traditional forms of infrastructure stand to benefit from the potential government policy change we may see over the next four years. However, by including exposure to IT within our American Infrastructure Growth Portfolio, we not only diversify our holdings, but we position the portfolio to potentially benefit from where the funds have been flowing in recent years.

According to Morgan Stanley, global IT budgets have grown around 3% per year since 2010.¹ Meanwhile, the US invested around 2.4% of its GDP in infrastructure (not including IT) from 2008 through 2013, which is not only 70 basis points below the level needed to support growth expectations, but equates to a 0% increase versus the 2000-through-2007 timeframe, according to McKinsey.² Manufacturers’ new orders for capital goods (excluding defense and aircraft) is another metric used as an indicator for infrastructure investment. From January 2014 through October 2016, capital goods orders declined by an average of 2.0% year-over-year.³

Year-over-year change: Manufacturer capital goods new orders, excluding defense and aircraft

Source: St. Louis Fed. Data from Jan. 1, 2014, through Oct. 31, 2016.

While the IT spending outlook is not as dependent on government funding, it could stand to benefit from any stimulus. President Trump specifically called out cybersecurity as a focual point during his “First 100 Days in Office” speech. Additionally, we expect any rebound in defense spending to directly benefit the IT sector as today’s version of defense is more focused on missile tracking systems, satellites and surveillance than it is on rifles and ammunition.

Given that President Trump will have a Republican-led Congress to work with, we believe that the United States will see some sort of rebound in infrastructure spending over the next few years. Until more details are known, however, we believe having broad-based exposure to the infrastructure theme — including investments in IT — is the most appropriate way to approach opportunities in this industry.

For more information, see American Infrastructure Growth Portfolio (INFA).

1 Source: Morgan Stanley, CIO Survey, Oct. 6, 2016

2 Source: McKinsey & Co., Bridging Global Infrastructure Gaps, June 2016

3 Source: St. Louis Fed, data as of Oct. 31, 2016

Important information

Blog header image: Bluskystudio/Shutterstock.com

A basis point is one hundredth of a percentage point.

Investment in infrastructure-related companies may be subject to high interest costs in connection with capital construction programs, costs associated with environmental and other regulations, the effects of economic slowdown and surplus capacity, the effects of energy conservation policies, governmental regulation and other factors.

Many products and services offered in technology-related industries are subject to rapid obsolescence, which may lower the value of the issuers.

American Infrastructure Growth Portfolio risks

There is no assurance that a unit investment trust will achieve its investment objective. An investment in this unit trust is subject to market risk, which is the possibility that the market values of securities owned by the trust will decline and that the value of trust units may therefore be less than what you paid for them. This trust is unmanaged and its portfolio is not intended to change during the trust’s life except in limited circumstances. Accordingly, you can lose money investing in this trust. The trust should be considered as part of a long-term investment strategy and you should consider your ability to pursue it by investing in successive trusts, if available. You will realize tax consequences associated with investing from one series to the next.

Security prices will fluctuate. The value of an investment may fall over time.

You could experience dilution of your investment if the size of the portfolio is increased as units are sold. There is no assurance that your investment will maintain its proportionate share in the portfolio’s profits and losses.

A security issuer may be unwilling or unable to declare dividends or make other distributions in the future, or may reduce the level of dividends declared. This may reduce the level of distributions certain of the Portfolio’s securities pay which would reduce your income and may cause the value of the Units to fall.

The portfolio invests in master limited partnerships (MLPs). Most MLPs operate in the energy sector and are subject to the risks generally applicable to companies in that sector, including commodity pricing risk, supply and demand risk, depletion risk and exploration risk. MLPs are also subject the risk that regulatory or legislative changes could eliminate the tax benefits enjoyed by MLPs which could have a negative impact on the after-tax income available for distribution by the MLPs and/or the value of the portfolio’s investments.

The trust is concentrated in the information technology sector. There are certain risks specific to the information technology sector such as rapid product obsolescence, volatile stock prices and speculative trading.

Nick Clare
Associate Portfolio Manager, UITs

Nick Clare is an Associate Portfolio Manager for Invesco Unit Trusts. Mr. Clare joined Invesco in 2013 from Robert W. Baird & Co., where he was a research analyst covering semiconductors. He joined Robert W. Baird & Co. in 2010. Mr. Clare earned his bachelor’s degree in finance from The University of Iowa.

When I joined Invesco in 2014 and started blogging about alternatives, alternative investment strategies were fairly new to individual investors; most of these mutual funds had track records of less than three years. At that time, many people didn’t know what to expect from this asset class, which gives investors exposure to a broad range of opportunities outside of traditional, long-only stock and bond holdings.¹ Today, with the ability to look back over the past three years, there are three key lessons that investors can take away about alternative investment strategies:

1. What to expect from performance. I’ve spoken to many investors who thought that alternative mutual funds would outperform equities year in and year out. This expectation ran counter to the fact that on a historical basis, alternative indexes have tended to underperform equities during bull markets and outperform equities during bear markets, as shown in the chart below. As a result, many investors were surprised and disappointed when their alternatives lagged equities over the past few years. I believe history has shown us what to generally expect from alternatives: the potential for underperformance relative to equities in bull markets and outperformance relative to equities in bear markets.

Source: Invesco, January 1997 through June 2016. Alternatives portfolio is represented by a portfolio comprising allocations to each of the following alternatives categories: Inflation-hedging assets, represented by 15% FTSE NAREIT All Equity REIT Index and 5% Bloomberg Commodity Index. The 15%/5% split reflects Invesco’s belief that investors tend to invest in strategies with which they are more familiar. Principal preservation strategies, represented by 20% BarclayHedge Equity Market Neutral Index. Portfolio diversification strategies, represented by 12% BarclayHedge Global Macro Index and 8% BarclayHedge Multi-Strategy Index. Multistrategy is underweighted in this example due to its potential overlap with global macro. Equity diversification strategies, represented by 20% BarclayHedge Long/Short Index. Fixed income diversification strategies, represented by 10% S&P/LSTA US Leveraged Loan Index and 10% BarclayHedge Fixed Income Arbitrage Index. The performance of individual alternative investments will differ from that of the index. Traditional 60/40 portfolio is represented by 60% S&P 500 Index and 40% Barclays US Aggregate Bond Index. Equities are represented by the S&P 500. Fixed Income is represented by the Barclays U.S. Aggregate Bond Index. Past performance is not a guarantee of future results.

2. Manager selection is critical. Even within the broad performance expectations outlined above, there is a lot of room for alternatives managers to distinguish themselves from the pack. Over the past three years, we’ve seen that the dispersion of returns across alternatives managers tends to be much wider than that of traditional managers. This dispersion can easily be seen when looking at the returns within any of the Morningstar alternatives categories. Clearly, there is a large gap between the performance of the top managers in the category and the performance of the bottom managers (there is also a large gap between the performance of the top managers and the Morningstar category average). As a result, manager selection is critical. Fortunately for investors, more and more managers have track records of three years or longer, making it easier to research their options. When evaluating manager performance, I believe it’s helpful to look beyond the manager’s annualized return and also focus on returns during bull and bear parts of the market cycle, volatility and correlation to traditional asset classes.

3. Fees matter. Alternative mutual funds tend to have higher fees than those charged on traditional equity and fixed income mutual funds. That’s because these funds give the manager increased freedom with how to invest (i.e., the ability to invest on a long and short basis and the ability to trade across multiple markets and asset classes). In return, these funds are expected to deliver differentiated returns relative to traditional stocks and bonds. For alternative funds that seek to deliver lower volatility — but in exchange for potentially lower returns — it’s particularly important to keep an eye on fees so that they don’t overwhelm the bottom line.

What lessons may lie ahead?

In addition to the above, I believe there is one looming lesson that investors may learn in the future:

Delivering performance in a down market is critical. There are several types of alternative investment strategies that are designed to help investors weather the storm when equities are falling. Market neutral, long/short equity, global macro and managed futures are examples of such strategies. In a bear market, these strategies have the potential to outperform equities either by incurring losses well below that of equities or by delivering positive returns. Why? Because they have the ability to take short positions (which are designed to profit when a security falls in price) as well as the ability to invest outside of traditional stock markets. Most mutual funds that implement these strategies have existed only during the past three years, which have been strong for equities.² As a result, most investors are focused on the performance of alternatives during this bull market period. What investors should also be focused on, in my view, is the potential for an alternative fund to perform well in a down market. To help assess this, investors can reference fund performance during the third quarter of 2015 and first six weeks of 2016, when equities sold off sharply.³ While those sell-offs were relatively short-lived (and while past performance does not guarantee future results), they do provide insight into how a fund could potentially perform during an extended sell-off.

For more information about alternatives

• To learn more about Invesco’s alternative strategies, please visit invesco.com/alternatives.
• You can also read previous blogs from Walter Davis, and ask Walter your questions about alternatives with our Ask the Expert feature.
• And, learn why it’s time to say goodbye 60/40 and to consider alternatives as more of your core.

1 Alternative investment strategies are investments in which the fund manager is given increased flexibility with how to invest. The manager is often given the ability to trade across multiple markets and asset classes such as stocks, bonds, currencies and commodities, as well as the ability to short markets (i.e., establish positions that profit from an investment declining in value.) Common hedge fund strategies such as global macro, equity long/short, market neutral, managed futures and unconstrained fixed income are all examples of alternative strategies.

2 Source: Invesco. The three-year return of the S&P 500 Index from December 2013 to December 2016 was 9.02%.

3 Source: Invesco. S&P 500 Index returns were -6.44% from June 2015 to September 2015, and -8.51% for the first six weeks of 2016.

Important information

Blog header image: maroke/Shutterstock.com

Walter Davis
Alternatives Investment Strategist
Invesco

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

For decades, real estate watchers have periodically claimed that suburban shopping malls are dying. Catalogs and TV shopping channels have been seen as serious threats — yet the mall has remained a suburban staple. Today, as online shopping dominates the market and high-profile department stores experience closures and bankruptcies, we’re hearing this familiar refrain once again. Despite the challenges, Invesco Real Estate believes brick-and-mortar locations will continue to be crucial to retailers — but identifying the properties with the potential to succeed may be more critical than ever.

Retail stores have a history of adapting to change

Throughout US history, there has been intense competition among retail stores to adapt to ever-changing shopper tastes, demographics and preferred living locales. Shopping used to take place primarily in city centers, but after World War II, the new interstate highway system paved the way for urban sprawl and suburban malls. The challenges to this format have been intense: catalog shopping, television shopping, fashion outlet malls, big-box retailers, stand-alone department stores and rising fuel prices among them.

What we have learned from history is that retail properties must always remain flexible and adaptable to changing consumer tastes. Will some malls go dark or be repurposed? Will more mall-focused retailers close locations or declare bankruptcy?  We believe that will definitely be the case. However, we also believe those most at risk are the lower-productivity malls — the so-called “C” malls — whose futures were uncertain even before the growth of e-commerce.

On the other hand, we believe that the best malls — the ones that people enjoy visiting and that are located in high-density, high-income areas — have a better chance to gain new retail tenants or to repurpose their space with restaurants, entertainment centers, residential areas, offices or hotels. Currently, US malls lag the rest of the world in embracing non-fashion retail uses. In other markets around the globe, food, beverage and entertainment can make up more than 50% of a mall’s floor space; the allocation to these categories in US malls is considerably less and, we believe, has room to grow.

Is investor pessimism an overreaction?

The woes of many retail chains have made headlines and grabbed investors’ attention. From a valuation standpoint, US mall real estate investment trusts (REITs) were trading at around a 19% discount to net asset value as of Feb. 28, 2017.¹ So has the market overreacted to the headline news?  Adverse news related to sub-par chains may continue to weigh on sentiment. However in our opinion, much of the negative news appears priced into the market.

From a fundamental perspective, regional mall performance has become bifurcated. Select mall REITs and other high-quality regional mall landlords have continued to record high occupancy rates — 96% on average² — and appear to even welcome the opportunity to replace marginal department stores with more current and more productive uses. Lower-quality mall occupancies remain around 92% on average,³ and these malls may have limited ability to find new tenants.

Stock price performance so far in 2017 reflects this bifurcated quality, with higher-quality mall companies outperforming low-quality companies by 15.1% through March 22, 2017 (with returns of -7.4% versus -22.5%, respectively).⁴

Invesco Real Estate’s mall outlook

We do not share the view that the mall is dead. Even e-commerce bellwether Amazon has opened physical stores in high-density locations. Retailers simply must adapt to the current environment. That may include concentrating on the best locations and optimizing their mix of online and physical presence — an “omnichannel” approach to retail.

Invesco Real Estate has historically preferred mall REITs that focus on higher-quality malls, and we have avoided those REITs that focus on lower-quality malls in less-dense areas. We have consistently concentrated on mall REITs with quality and productivity, as well as a geographic bias toward high-barrier markets on the East Coast or West Coast, and/or high-income, high-density locations in Middle America. We will continue to compare upper-tier mall valuations against our assessment of underlying real estate fundamentals and adjust positions as warranted.

Learn more about Invesco Global Real Estate Income Fund.

1 Source: Bloomberg, L.P. US mall REITs represented by the FTSE NAREIT Equity Regional Malls Sub Sector Index.

2 Source: Bloomberg, L.P. Represents the constituents of the FTSE NAREIT Equity Regional Malls Sub Sector Index that are defined by GreenStreet Advisors as “high productivity” mall companies. Occupancy stats are the market-cap-weighted average as of fourth quarter 2016.

3 Source: Bloomberg, L.P. Represents the constituents of the FTSE NAREIT Equity Regional Malls Sub Sector Index that are defined by GreenStreet Advisors as “low productivity” mall companies. Occupancy stats are the market-cap-weighted average as of fourth quarter 2016.

4 Source: Bloomberg, L.P. Represents the constituents of the FTSE NAREIT Equity Regional Malls Sub Sector Index that are defined by GreenStreet Advisors as “high productivity” and “low productivity” mall companies.

Important information

Blog header image: IR Stone/Shutterstock.com

The FTSE NAREIT Equity Regional Malls Sub Sector Index is an unmanaged index used to represent US mall real estate investment trusts.

A real estate company’s net asset value (NAV) is derived by taking the perceived underlying value of its properties and subtracting the debt related to those properties. This amount is then divided by the number of the company’s outstanding shares to determine its NAV.

Investments in real estate related instruments may be affected by economic, legal, or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small and mid-cap companies and their shares may be more volatile and less liquid.

Invesco Global Real Estate Income Fund risks

Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested.

The risks of investing in securities of foreign issuers, including emerging market issuers, can include fluctuations in foreign currencies, political and economic instability, and foreign taxation issues.

Junk bonds have greater risk of default or price changes due to changes in the issuer’s credit quality. Junk bond values fluctuate more than high quality bonds and can decline significantly over a short time.

Stocks of small and mid-sized companies tend to be more vulnerable to adverse developments, may be more volatile, and may be illiquid or restricted as to resale.

The fund is subject to certain other risks. Please see the current prospectus for more information regarding the risks associated with an investment in the fund.

Joe Rodriguez Jr.

Managing Director

Head of Global Real Estate Securities

Invesco Real Estate

In addition to portfolio management, Mr. Rodriguez is a managing director and the head of real estate securities for Invesco Real Estate, where he oversees all phases of the unit, including securities research and administration.

Mr. Rodriguez began his investment career in 1983 and joined Invesco Real Estate, the Dallas-based investment management affiliate of Invesco Institutional (N.A.), Inc., in 1990. He has served on the editorial board for the Financial Times Stock Exchange National Association of Real Estate Investment Trusts (FTSE NAREIT), as well as the editorial board of the Institutional Real Estate Securities newsletter. He is a member of the National Association of Business Economists, American Real Estate Society and the Institute of Certified Financial Planners. He has also served as adjunct professor of economics at The University of Texas at Dallas.

In addition, Mr. Rodriguez was a contributing author to Real Estate Investment Trusts: Structure Analysis and Strategy, published by McGraw-Hill. He made contributions as editor and author to several industry publications, and has been featured as a real estate expert by both financial industry print and television media such as CNBC and Bloomberg News.

Mr. Rodriguez earned a Bachelor of Business Administration degree in economics and finance as well as an MBA in finance from Baylor University.

Chris Faems, CFA

Associate Portfolio Manager

Chris Faems is an Associate Portfolio Manager with the Real Estate Securities Portfolio Management and Research team with Invesco Real Estate. His current duties include researching fundamental and quantitative information on real estate securities.

Prior to joining Invesco in 2006, Mr. Faems worked at Flagstone Securities as a senior research analyst focusing on equity research and investment recommendations of mortgage finance companies. Previously, he worked at Kennedy Capital Management as a research analyst covering small- and mid-cap financial services companies, and at Stifel, Nicolaus & Co. as an investment banker in the financial institutions group. He entered the industry in 1996.

Mr. Faems earned a BS degree in finance from Washington University in St. Louis. He is a CFA charterholder.

 

While private equity funds are currently off limits to retail investors, many large firms in the industry are seeking ways to include private equity exposure in 401(k) accounts and target date funds.¹ Providing retail investors with private equity fund options would be a welcome development, in my view, potentially enhancing their ability to build effective portfolios for more secure retirements.

Institutional and high net worth investors have long been attracted to private equity for its potential to deliver returns above those of public equity markets. To understand why, let’s take a closer look at this asset class.

What is private equity?

The defining characteristic of private equity is that the investment is in a private company rather than one that is publicly traded. Private equity funds can make direct investments in private companies and may also engage in buyouts of public companies, resulting in the subsequent delisting of the company’s public equity.²

A unique and critical aspect of private equity is the active role a private equity manager plays within the companies in which it invests. After a private equity fund buys a company, the fund manager works closely with that company to improve its operations and make it more valuable. The ability of managers to create value within their portfolio companies is a key driver of success within private equity.

What types of private equity strategies are there?

Two of the most popular private equity strategies are venture capital and buyouts:

• Venture capital funds invest in companies that are in the early stages of development. These funds seek to invest where there is the potential for high returns, then work to enable the companies to fulfill that potential.
• On the other hand, buyout funds invest in more mature companies. Leveraged buyout funds use considerable amounts of debt in acquiring a company and seek to create value by realizing opportunities and creating operational efficiencies. Distressed buyout funds invest in distressed companies, then seek to turn around their performance.

What do investors need to know about private equity?

Importantly, private equity funds are long-term investments that typically have terms of eight to 15 years. As a result, private equity funds will methodically make multiyear investments, then seek to create value within their portfolio companies. Finally, to realize the value created from their investments, the funds will seek an opportune time to either sell or take the companies public.

Because private markets are inherently less efficient than public markets, private equity managers may be able to create additional value by exploiting these inefficiencies. As such, the ability of private equity funds to purchase and sell their investments at attractive prices is a large driver of potential return.

As the chart below illustrates, private equity has historically generated strong absolute returns that generally outperformed public equities.

Historical performance of private equity

Returns as of Sept. 30, 2016

Past performance is no guarantee of future results. Investments cannot be made directly into an index. Venture Capital Funds represented by Cambridge Associates Global Venture Capital Benchmark. Horizon calculation based on data compiled from 2,072 global venture capital funds. Private Equity represented by Cambridge Associates Global Private Equity Benchmark. Horizon calculation based on data compiled from 2,448 global private equity funds Private equity asset class excludes venture capital. Real Estate represented by Cambridge Associates Global Real Estate Benchmark. Horizon calculation based on data compiled from 911 global real estate funds.

The potential to achieve returns greater than those of public equities has caused institutional and high net worth investors to consider private equity. These strategies are also used by underfunded pension plans that need to achieve strong returns in order to cover future liabilities.

Over the past several years, private equity has seen a steady inflow of assets, causing many institutional investors to be cautious about future performance. Specifically, there is a concern that too much money is chasing too few deals. If true, this would result in less profitable transactions and lower future returns.³

Given the attractive nature of historical private equity returns, an obvious question is, “Why aren’t these investments available to everyone?” The biggest reason is that private equity investments are illiquid. Unlike a mutual fund that offers investors the ability to redeem on a daily basis, private equity funds require investors to commit their investment for the full term of the fund (which, as stated earlier, is typically eight to 15 years). Not all investors would be comfortable with such a long-term commitment.

Another reason private equity is not available to retail investors relates to fees. Compared to mutual funds, private equity charges much higher fees. Lastly, private equity funds are typically valued on a quarterly basis, as opposed to mutual funds, which provide investors with daily valuations.

While private equity is clearly not suitable for everyone, I believe the move toward making these funds more widely available could be a great benefit for investors overall. By boosting diversification and potentially increasing returns, the private equity option could help suitable investors better achieve their retirement goals.

1 Bloomberg, “Schwarzman’s ‘Dream’ Tested as Private Equity Eyes Your Nest Egg,” April 20, 2017

2 Investopedia

3 Prequin, Private Equity 2016

Important information

Blog header image: Oppdowngalon/Shutterstock.com

The Bloomberg Barclays US Aggregate Bond Index is an unmanaged index considered representative of the US investment-grade, fixed-rate bond market.

A Treasury bill is a certificate representing a loan to the federal government that is issued at a discount and matures in three, six or 12 months.

Alternative investment products, including hedge funds and private equity, involve a high degree of risk, often engage in leveraging and other speculative investment practices that may increase the risk of investment loss, can be highly illiquid, are not required to provide periodic pricing or valuation information to investors, may involve complex tax structures and delays in distributing important tax information, are not subject to the same regulatory requirements as mutual funds, often charge high fees which may offset any trading profits, and in many cases the underlying investments are not transparent and are known only to the investment manager. There is often no secondary market for hedge funds and private equity, and none is expected to develop. There may be restrictions on transferring interests in such investments.

Investments in real estate related instruments may be affected by economic, legal, or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small and mid-cap companies and their shares may be more volatile and less liquid.

To the extent the fund invests a greater amount in any one sector or industry, there is increased risk to the fund if conditions adversely affect that sector or industry.

Walter Davis
Alternatives Investment Strategist
Invesco

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

Most will agree that one of the least enjoyable summer traditions is summer school. I got a vivid reminder of this the other day when I put my youngest son on the bus for his summer classes, then had flashbacks to my own summer before 9^th grade when I did the same thing. But while summer school is not particularly fun (at any age), it can be extremely valuable.

In my experience, summer school gave me a preview of material I needed to know for the upcoming year and allowed me to catch up on any previously covered material that was difficult to master. Regardless of the reason for our summer “sentence,” we all emerged from summer school smarter and better prepared for the upcoming year.

With this in mind, I thought I would use this summer to write a series of blogs covering the basics of alternative investments. My hope is the series will provide an opportunity for people to become more familiar and comfortable with this topic and be more informed investors as we head into the second half of 2017.

What are alternative investments?

While there is no one definitive definition, Invesco defines alternatives as investments other than publicly traded, long-only equities and fixed income. Based on our definition, the alternatives category would include investments with any of the following characteristics:

• Investments that engage in “shorting” (i.e., seeking to profit from a decline in the value of an asset), such as global macro, market neutral and long/short equity strategies
• Investments in asset classes other than stocks and bonds, such as commodities, natural resources (e.g., timberland, crude oil), infrastructure, master limited partnerships (MLPs) and real estate
• Investments in illiquid and/or privately traded assets such as private equity, venture capital and private credit

Liquid vs. illiquid investments

At a high level, Invesco divides the universe of alternatives between liquid and illiquid alternatives.

• Liquid alternatives predominantly invest in underlying instruments that are frequently traded and regularly priced, providing investors the ability to redeem their investments on a regular basis. Alternative mutual funds fall into this category, and are available to everyday investors. Traditional hedge funds are another example, but these are typically only available to high net worth investors (with a net worth over $5 million) and institutional investors (such as pension plans, foundations, endowments).
• Illiquid alternatives predominantly invest in underlying instruments that are privately traded, priced on a periodic basis (often quarterly) and require a long holding period (typically several years) during which investors have little to no ability to redeem their positions. Private equity, venture capital, direct real estate, private credit, direct infrastructure and natural resources are examples of illiquid alternatives. Illiquid alternatives are only available to institutional investors and high net worth individuals.

Alternative asset classes vs. alternative investment strategies

Invesco further divides the universe of alternatives between alternative asset classes and alternative investment strategies:

• Alternative asset classes are investments in asset classes other than stocks and bonds, such as real estate, commodities, natural resources, infrastructure and MLPs. Individuals can access these asset classes through mutual funds. The performance of these investments is often driven by the underlying performance of the asset class as a whole. Investors frequently invest in alternative asset classes in an attempt to hedge against inflation, achieve equity-like returns and to receive attractive levels of current income.
• Alternative investment strategies are investments in which the fund manager is given increased flexibility with how to invest. The manager is often able to trade across multiple markets and asset classes such as stocks, bonds, currencies and commodities and may have the ability to short markets. The ability to short has the potential to significantly impact the return stream of these investments, as shorting gives these strategies the potential to generate positive returns in a falling market environment. It’s important to note that in rising markets short positions are exposed to unlimited loss potential.

Additionally, alternative investment strategies often use derivatives such as futures, forwards, options and swaps in order to potentially improve portfolio diversification, hedge market risks, help protect on the downside and efficiently establish market exposure.

Because of these characteristics, the performance of an investment in an alternative investment strategy is highly dependent on the skill of the underlying manager (rather than the general direction of a certain market), and performance across managers can vary greatly.

Common hedge fund strategies such as global macro, long/short equity, market neutral, managed futures and unconstrained fixed income are all examples of alternative strategies. Individuals can typically access these strategies through mutual funds to diversify their portfolios, potentially limit volatility during falling market environments, or add an investment with the potential to generate positive returns in both rising and falling markets.

What’s next?

Now that we’ve reviewed what alternatives are, the next blog will focus on why one should consider investing in alternatives. In the meantime, to learn more about Invesco and our alternative investment options please visit our website at www.invesco.com/alternatives.

Read Part 2: Why invest in alternatives?

Important information

Blog header image: Roman Samborskyi/Shutterstock.com

Alternative products typically hold more non-traditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

Derivatives may be more volatile and less liquid than traditional investments and are subject to market, interest rate, credit, leverage, counterparty and management risks. An investment in a derivative could lose more than the cash amount invested.

Short sales may cause an investor to repurchase a security at a higher price, causing a loss. As there is no limit on how much the price of the security can increase, exposure to potential loss is unlimited.

Walter Davis
Alternatives Investment Strategist

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

As highlighted in my previous blog, What are alternative investments, I’m embracing the spirit of summer school with a series of four blogs reviewing the basics of alternative investments. Part 1 explained what alternative investments are. In this installment, I explore why an investor should consider investing in alternatives.

Why use alternatives?

Like stocks and bonds, alternative investments are simply tools used by investors in an effort to achieve their investment goals. Given their unique characteristics, alternative investments have the potential to help investors meet three key objectives:

 1. Build wealth. The primary reason people invest is to build wealth, be it to provide for a comfortable retirement, buy a home or pay for a college education. Alternatives can help, as these strategies have the potential to generate attractive long-term returns. Furthermore, alternatives offer the potential to profit from opportunities outside of stocks and bonds, such as with currencies, commodities, real estate, master limited partnerships (MLPs) and infrastructure. Additionally, some alternatives, such as global macro, market neutral and long/short equity strategies, engage in “shorting” (i.e., seeking to profit from a decline of an asset), giving them the potential to generate positive returns during both rising and falling market environments.

2. Preserve wealth. Alternatives can help investors preserve wealth in a number of different ways. Alternative investment strategies that have the ability to take short positions (i.e., they can profit from a decline in the value of an asset) offer investors the potential to generate positive returns in falling markets, thus offsetting losses incurred by other assets in the portfolio. Several alternatives, such as those that invest in currencies, commodities and real estate, typically have low correlation to traditional stocks and bonds. As a result, they may help reduce overall portfolio volatility as measured by standard deviation. Additionally, investments in alternative asset classes like commodities may help investors preserve their purchasing power in the face of inflation, while other types of alternatives such as leveraged loans (e.g., senior secured loans to non-investment grade companies, also known as bank loans) can benefit during rising interest rate environments, which would otherwise cause bond prices to decline.

3. Enhance current income. Historically, government bonds were highly desired by many investors seeking an attractive level of current income with very low risk. For example, during the 1980s and 1990s, the yield on 10-year US government bonds ranged between approximately 5% and 10%.¹ Since 2000, however, rates have fallen sharply, and 10-year bonds currently yield only 2.3%.² As a result of low rates, many investors are searching for anything that can deliver an attractive yield. There are a number of alternatives that offer good yield potential, albeit with greater risk than that associated with government bonds. Examples of alternatives that can provide investors with current income include leveraged loans, real estate income funds, MLPs and infrastructure funds.

The potential for alternatives to help investors both build and preserve wealth is best demonstrated by comparing the historical performance of alternatives³ to that of equities, fixed income and the traditional 60% stock/40% bond portfolio. This comparison is illustrated in the chart⁴ below.

Data from January 1997 to December 2016.

On a historical basis, alternatives have generated a compound annual return slightly below that of stocks, with volatility well below that of stocks. Furthermore, the maximum decline for alternatives was less than half that of stocks.

The potential benefit of adding alternatives to a portfolio is demonstrated in the pie charts⁵ below, which compare the performance of a traditional 60% stock/40% bond portfolio to one composed of 48% stocks, 32% bonds and 20% alternatives. As you can see, the portfolio with alternatives would have produced a slightly higher return, lower volatility and a lower maximum decline, thus helping investors both build and preserve wealth.

Learn more about Invesco and our alternative investment options.

Read Part 1: What are alternative investments?

Important information

Blog header image: Neale Cousland/Shutterstock.com

1 Source: Bloomberg L.P.

2 Source: Bloomberg L.P.; as of June 30, 2017

3 For purposes of this analysis, only the performance of liquid alternatives is included. The reason for this is that liquid alternatives are widely available to all investor types. In contrast, illiquid alternatives (e.g., private equity, venture capital, direct real estate, etc.) are only available to high net worth and institutional investors and are not available to retail investors.

4 Source: StyleADVISOR. Alternatives represented by a portfolio comprising equal allocations to alternative assets, represented by FTSE NAREIT All Equity REIT Index and Bloomberg Commodity Index; relative value strategies, represented by BarclayHedge Equity Market Neutral Index; global investing and trading strategies, represented by BarclayHedge Global Macro Index, BarclayHedge Multi-Strategy Index and BarclayHedge Currency Traders Index; alternative equity strategies, represented by BarclayHedge Long/Short Index; and alternative fixed income strategies, represented by Credit Suisse Leveraged Loan Index, HFN Fixed Income Arbitrage Index and BarclayHedge Fixed Income Arbitrage Index. The performance of individual alternative investments will differ from that of the index. Equities represented by the S&P 500 Index. Fixed income represented by Bloomberg Barclays U.S. Aggregate Bond Index. Traditional 60/40 portfolio represented by 60% S&P 500 Index and 40% Bloomberg Barclays U.S. Aggregate Bond Index. The period represented is January 1997 through December 2016. Volatility is measured by standard deviation.

5 Source: StyleADVISOR. Alternatives portfolio represented by a portfolio comprising allocations to each of the following alternatives categories: Inflation-hedging assets, represented by 15% FTSE NAREIT All Equity REIT Index and 5% Bloomberg Commodity Index. The 15%/5% split reflects Invesco’s belief that investors tend to invest in strategies with which they are more familiar. Principal preservation strategies, represented by 20% BarclayHedge Equity Market Neutral Index. Portfolio diversification strategies, represented by 12% BarclayHedge Global Macro Index and 8% BarclayHedge Multi-Strategy Index. Multi-strategy is underweighted in this example due to its potential overlap with global macro. Equity diversification strategies, represented by 20% BarclayHedge Long/Short Index. Fixed income diversification strategies, represented by 10% S&P/LSTA US Leveraged Loan Index and 10% BarclayHedge Fixed Income Arbitrage Index. Equities represented by the S&P 500 Index. Fixed income represented by the Bloomberg Barclays U.S. Aggregate Bond Index. Risk is measured by standard deviation. Maximum decline refers to the largest percentage drop in performance.

Standard deviation measures a fund’s range of total returns and identifies the spread of a fund’s short-term fluctuations.

Maximum drawdown refers to the largest percentage drop in value during the measured period.

Correlation is the degree to which two investments have historically moved in relation to each other.

BarclayHedge indexes reflect performance of hedge funds, not of retail investment strategies, and are used for illustrative purposes only solely as points of reference in evaluating alternative investment strategies.

Past performance is not a guarantee of future results. An investment cannot be made directly in an index.

The BarclayHedge Currency Traders Index is an equal-weighted composite of managed programs that trade currency futures and/or cash forwards in the interbank market.

The BarclayHedge Equity Market Neutral Index includes funds that attempt to exploit equity market inefficiencies and usually involves being simultaneously long and short matched equity portfolios of the same size within a country.

The BarclayHedge Fixed Income Arbitrage Index includes funds that aim to profit from price anomalies between related interest rate securities.

The BarclayHedge Global Macro Index includes funds that carry long and short positions in any of the world’s major capital or derivative markets.

The BarclayHedge Long/Short Index includes funds that employ a directional strategy involving equity-oriented investing on both the long and short sides of the market.

The BarclayHedge Multi-Strategy Index includes funds that are characterized by their ability to dynamically allocate capital among strategies falling within several traditional hedge fund disciplines.

The Bloomberg Barclays U.S. Aggregate Bond Index is an unmanaged index considered representative of the US investment grade, fixed-rate bond market.

The Bloomberg Commodity Index is a broadly diversified commodity price index.

The Credit Suisse Leveraged Loan Index represents tradable, senior-secured, US-dollar-denominated, non-investment grade loans.

The FTSE NAREIT All Equity REIT Index is an unmanaged index considered representative of US REITs.

The HFN Fixed Income Arbitrage Index includes funds that attempt to exploit pricing inefficiencies between credit sensitive instruments, which may include government or corporate debt, structured securities and their related derivatives.

The S&P/LSTA US Leveraged Loan Index is representative of the performance of the largest facilities in the leveraged loan market.

The S&P 500^® Index is an unmanaged index considered representative of the US stock market.

Alternative investments can be less liquid and more volatile than traditional investments, such as stocks and bonds, and often lack longer-term track records.

Alternative products typically hold more nontraditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

Alternative investment products, including hedge funds and private equity, involve a high degree of risk, often engage in leveraging and other speculative investment practices that may increase the risk of investment loss, can be highly illiquid, are not required to provide periodic pricing or valuation information to investors, may involve complex tax structures and delays in distributing important tax information, are not subject to the same regulatory requirements as mutual funds, often charge high fees which may offset any trading profits, and in many cases the underlying investments are not transparent and are known only to the investment manager. There is often no secondary market for hedge funds and private equity, and none is expected to develop. There may be restrictions on transferring interests in such investments.

Walter Davis
Alternatives Investment Strategist

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

In this chapter of my “summer school” blog series, I take a look at what investors might expect from alternative investment performance. (Part 1 reviewed what alternative investments are, and Part 2 explained why investors should consider adding them to portfolios.)

Historical performance of alternatives

In my last blog, I used the first chart¹ below to compare the historical performance of alternatives to that of equities, fixed income and the traditional 60% stock/40% bond portfolio.

This chart does a good job comparing the long-term returns and key risk measures of alternatives to those of traditional investments. But as we all know, there can be shorter-term performance trends — both good and bad — within long-term time frames. In this blog, we’re going to dig a bit deeper into how alternatives performed in different equity market environments. As we’ll see in the chart below,¹ the performance of alternatives has differed considerably from equities during different parts of the market cycle.

When comparing the performance of alternatives to stocks during different parts of the market cycle, it becomes clear that there is a tortoise and hare relationship between the two.

• During bull markets, alternatives have historically generated positive returns, but those returns have lagged those of stocks.
• During bear markets, alternatives have historically generated superior returns relative to stocks. For example, during the two-year bear market following the bursting of the tech bubble, alternatives generated a positive return. During the global financial crisis, alternatives posted a negative return, but didn’t lose as much as stocks did.

Returning to the tortoise and hare analogy, alternatives have behaved like the tortoise, taking a slow and steady approach by generating more consistent returns with less volatility than stocks. On the other hand, stocks are more like the hare — they may generate significant returns quickly, but they can also move sharply downward in a very short period. Only when examining the entire market cycle did the returns for equities and alternatives end up in a similar place.

For investors considering alternatives, it is critical that they understand the potential nature of returns during different parts of the market cycle. Specifically, they might expect alternatives to underperform equities during periods of stock market strength, outperform equities during periods of stock market weakness, and generate equity-like returns in the long term.

To learn more about Invesco and our alternative investment options, please visit our website at www.invesco.com/alternatives.

Read Part 1: What are alternative investments?

Read Part 2: Why invest in alternatives?

Important information

Blog header image: Matej Kastelic/Shutterstock.com

1 Source: StyleAdvisor. Alternatives are represented by a portfolio comprising equal allocations to alternative assets, represented by FTSE NAREIT All Equity REIT Index, Bloomberg Commodity Index; relative value strategies, represented by BarclayHedge Equity Market Neutral Index; global investing and trading strategies, represented by BarclayHedge Global Macro Index, BarclayHedge Multi Strategy Index and BarclayHedge Currency Traders Index; alternative equity strategies, represented by BarclayHedge Long/Short Index; and alternative fixed income strategies, represented by Credit Suisse Leveraged Loan Index, HFN Fixed Income Arbitrage Index and BarclayHedge Fixed Income Arbitrage Index. The performance of individual alternative investments will differ from that of the index. Equities represented by the S&P 500 Index. Fixed Income represented by the Bloomberg Barclays U.S. Aggregate Bond Index. Traditional 60/40 Portfolio represented by 60% S&P 500 & 40% Bloomberg Barclays U.S. Aggregate Bond Index. The period represented is January 1997 through December 2016. Volatility is measured by standard deviation.

For purposes of this analysis, only the performance of liquid alternatives is included. The reason for this is that liquid alternatives are widely available to all investor types. In contrast, illiquid alternatives (e.g. private equity, venture capital, direct real estate, etc.) are only available to high net worth and institutional investors and are not available to retail investors.

BarclayHedge indexes reflect performance of hedge funds, not of retail investment strategies, and are used for illustrative purposes only solely as points of reference in evaluating alternative investment strategies.

The BarclayHedge Currency Traders Index is an equal-weighted composite of managed programs that trade currency futures and/or cash forwards in the interbank market.

The BarclayHedge Equity Market Neutral Index includes funds that attempt to exploit equity market inefficiencies and usually involves being simultaneously long and short matched equity portfolios of the same size within a country.

The BarclayHedge Fixed Income Arbitrage Index includes funds that aim to profit from price anomalies between related interest rate securities.

The BarclayHedge Global Macro Index includes funds that carry long and short positions in any of the world’s major capital or derivative markets.

The BarclayHedge Long/Short Index includes funds that employ a directional strategy involving equity-oriented investing on both the long and short sides of the market.

The BarclayHedge Multi-Strategy Index includes funds that are characterized by their ability to dynamically allocate capital among strategies falling within several traditional hedge fund disciplines.

The Bloomberg Barclays US Aggregate Bond Index is an unmanaged index considered representative of the US investment-grade, fixed-rate bond market.

The Bloomberg Commodity Index is a broadly diversified commodity price index.

The Credit Suisse Leveraged Loan Index represents tradable, senior-secured, US dollar-denominated, noninvestment-grade loans.

The FTSE NAREIT All Equity REIT Index is an unmanaged index considered representative of US REITs.

The HFN Fixed Income Arbitrage Index includes funds that attempt to exploit pricing inefficiencies between credit sensitive instruments which may include government or corporate debt, structured securities and their related derivatives.

The S&P 500^® Index is an unmanaged index considered representative of the US stock market.

Past performance is not a guarantee of future results. An investment cannot be made directly in an index.

Alternative investments can be less liquid and more volatile than traditional investments, such as stocks    and bonds, and often lack longer-term track records.

Alternative products typically hold more non-traditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

Investing in stock involves risks, including the loss of principal and changes in dividend policies of companies and the capital resources available for dividend payments. Although bonds generally present less short-term risk and volatility than stocks, investing in bonds involves interest rate risk; as interest rates rise, bond prices usually fall, and vice versa. Bonds also entail credit risk and the risk of default, as well as greater inflation risk than stocks.

Walter Davis
Alternatives Investment Strategist

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

This blog marks the final installment in my “summer school” series on alternative investing. Having covered what alternative investments are, why to consider them, and what might be expected from their performance. This final chapter will offer some thoughts about how investors can incorporate alternatives into their existing portfolios.

How to incorporate alternatives into your portfolio

To accomplish any objective, it is essential to have a plan. If you’re interested in alternative investments, following the multi-step process below can help you think about how you may fit these assets into your portfolio:

Define your investment objectives. As I wrote earlier, like stocks and bonds, alternative investments are simply tools investors use in an effort to achieve their investment goals. To this end, it is important for investors to define their investment objectives so they can evaluate whether or not different investments can potentially help them be successful.

Identify those alternatives that are consistent with your objectives. Given the myriad alternatives available, a major challenge for investors is figuring out which ones best fit their current goals. To help investors navigate this challenge, Invesco has created an investment framework that organizes the liquid alternatives universe around common objectives:

Framework applies to liquid alternatives and nonaccredited, retail investors. There is no guarantee the strategies will be successful.

Research specific funds. Once investors have decided which strategies they want to incorporate, they need to select the specific funds in which they will invest. Importantly, an investor should invest in a fund only after they understand its unique characteristics (such as expected return and risk), what constitutes a favorable/unfavorable environment, expected performance during different market cycle periods and key drivers of return. To assist their research, investors can find a wealth of information on the websites of the various fund providers, on fund research sites such as Morningstar, and of course from their financial advisor.

Consider management structure and style. Investors should decide if they prefer a single-manager fund or a multi-manager fund. The advantage of a single-manager fund is the investor can be targeted in their approach — single-manager funds usually have a well-defined investment style. The disadvantage of a single-manager fund is the investor is taking on manager risk (i.e., the risk of selecting an underperforming manager). To help mitigate manager risk, the investor can divide assets among multiple managers, thus limiting their exposure to any specific manager.

The advantage of a multi-manager fund is that it allocates across multiple managers (and usually across multiple strategies). The disadvantage of multi-manager funds is the allocation across managers and strategies typically fluctuates, thus limiting an investor’s ability to be targeted in their exposure to a particular strategy.

Decide how much to invest in alternatives. There is no single correct answer as to how much to invest in alternatives. In my experience, investors typically allocate between 5% and 30% of their portfolio to alternatives, which is consistent with what I hear from investment firms. The percentage an investor allocates to alternatives is typically driven by their risk tolerance and comfort level. However, I believe that if an investor does decide to move into alternatives, the amount allocated should be large enough to have an impact on the portfolio. If the allocation is too small, the impact on the portfolio will be negligible, thus defeating the purpose of diversifying into alternatives.

Determine how to fund the investment in alternatives. I am a big believer that asset allocation is as much an art as a science. Furthermore, investors have their own unique investment objectives that will drive asset allocation decisions. As a result, there is no one-size-fits-all answer to the question of how to fund an allocation to alternatives. That said, below are two approaches to consider:

1. Allocate proportionately away from stocks and bonds. For example, if an investor wants to allocate 10% of a portfolio to alternatives, they could fund the allocation by reducing their fixed income allocation by 10% and their equity allocation by 10%.
2. Allocate based on the return and risk characteristics of the alternative. Under this strategy, if the alternative has predominantly equity-like return and risk characteristics, they would reduce their equity allocation to fund the investment. Similarly, if the alternative has predominantly fixed income-like characteristics, they would take the money from their fixed income allocation.

A final thought

I have one final thought for investors looking to incorporate alternatives into their portfolios: Have a forward-looking perspective and be disciplined. In my experience, a wise approach is forward-looking and builds a portfolio based on what’s on the horizon. Such investors reject a backward-looking approach in which investment decisions are based on the previous market environment. They are also disciplined with regard to their investment approach. Once the decision is made to add alternatives, disciplined investors make alternatives a core holding and allocate based on the long-term expected benefit to the portfolio. As a result, this approach avoids the biggest and most common mistake I see with regard to alternatives — namely, performance chasing.

I hope this “summer school” series has helped you brush up on your alternatives knowledge and prepared you for making decisions in the second half of the year. To learn more about Invesco and our alternative investment options, please visit invesco.com/alternatives.

Read Part 1: What are alternative investments?

Read Part 2: Why invest in alternatives?

Read Part 3: How have alternatives performed?

Important information

Blog header image: Mikael Damkier/Shutterstock.com

Alternative products typically hold more nontraditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

There can be no assurance the investments discussed will perform as expected, or that past performance indicates future results.

Walter Davis
Alternatives Investment Strategist

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.

For eight years after the global financial crisis, income-seeking investors had a dilemma — yields on most traditional bonds had fallen precipitously. To obtain a yield anywhere close to pre-recession levels, one had to assume greater risk. Now, the tables have turned. With the Federal Reserve (Fed) hiking interest rates, there’s a new concern for investors. Given that bond prices tend to fall when yields rise, is there an income-generating investment that may also hold its value in this environment?

Are REITs right for rising rate environments?

Real estate investment trusts (REITs) can complement diversified portfolios by providing potential diversification from traditional stocks and bonds and supplemental income potential in low interest rate environments. At Invesco Real Estate, we believe REITs can play the same role when rates are headed up as well. As we’ll discuss below, REITs outperformed both stocks and bonds during the rising rate environment of 2004 to 2006.

Different property types; different demand drivers

Before we analyze past performance, it’s important to understand the unique characteristics that drive REIT performance. Within the REIT universe, there are different property types with different demand drivers:

Residential. Apartments, single-family rentals and manufactured housing fall in this category. As in retail (shown below), income is earned by rents paid by tenants. These REITs generally have the shortest lease structure, typically six to 12 months. Also, the main demand driver for residential REITs is employment.

Retail. These invest predominantly in shopping centers, regional malls and freestanding retail stores, and make money through the rents charged to tenants. These REITs generally have longer lease structures of at least three years and also tend to be driven by employment and income levels.

Office. These invest primarily in office buildings and receive income from the companies renting space. These tenants usually sign long-term leases of five years or more.

Health care. A fairly new subsector, health care REITs invest in hospitals, medical facilities and nursing homes, for example. Income is earned through occupancy fees, government program reimbursements and private payments.

Industrial. Demand for these assets, such as warehouses and distribution centers, tends to be driven by general economic activity, including global trade and inventory buildup. Industrial buildings can be constructed fairly quickly and tend to have leases around six years.

Infrastructure. Another fairly new subsector, infrastructure REITs include data centers and cell towers. These REITs are considered nontraditional REITs as their demand tends to be driven more by the secular trends of cloud data storage and smartphone adoption.

Timberland. Timber REITs own and manage timberland properties. They also specialize in harvesting and selling timber, homebuilding and cellulose products. Therefore, they are typically driven by construction and paper product demand.

REIT breakdown by property type (by percentage)

Sources: Invesco Real Estate, NAREIT, as of June 30, 2017

Mortgage REITs — a different beast

Instead of owning property, mortgage REITs generate income through buying or originating mortgages or mortgage-backed securities, then collecting the interest payments. For mortgage REITs, the dynamic is slightly different — when interest rates are higher, homeowners are less likely to prepay their mortgage, which extends the duration of their payments and the cash flow to the REIT. As such, these REITs tend to be more sensitive to changes in interest rates and can behave more like bonds.

What drives REIT performance?

While there are considerations to each of these that may make one or the other more desirable at a given point in time, it is important to remember that REITs are not bonds and generally don’t behave like them over the medium to long term. This is because the landlords of the underlying commercial real estate assets, such as multi-family housing, office buildings and shopping centers, can raise the rents of these assets over time. Long-term REIT performance is driven by the changing dynamics of fundamentals of the underlying assets and cash flow.

Why does this matter in a rising rate environment? The Fed typically increases interest rates in response to improving economic conditions, such as a better employment picture and increasing personal incomes — and these conditions can also lead to increasing demand for office space and housing, which supports higher rents.

The chart below shows that during the last interest rate hike between June 2004 and June 2006, REITs significantly outperformed stocks.

Source: Bloomberg L.P., from April 29, 2004, through June 29, 2006. Past performance is not a guarantee of future results. An investment cannot be made directly into an index. Interest rate quoted is the Federal Funds Rate set by the governors of the Federal Reserve.

Déjà vu all over again?

Now that the Fed has embarked on another round of raising interest rates, we believe portfolios can still benefit from the characteristics that REITs may provide outside of traditional stocks and bonds: current income, potential diversification and a possible hedge against future inflation. The US economy, while not setting any records, is continuing to expand. Unemployment remains near a 10-year low, and equity markets reflect growing corporate profits.

Of course, all investments require due diligence. It’s important to talk to your financial advisor about whether REITs are right for you, and if so, which portfolio manager has the expertise to find opportunities in today’s environment.

Experience our high-conviction approach

We understand the challenges you face in seeking growth, limiting volatility and generating income. Discover more about our real estate strategies and how our high-conviction approach to investing may help you achieve your unique investment goals.

• Invesco Global Real Estate Income Fund
• Invesco Global Real Estate Fund
• Invesco Real Estate Fund
• Invesco US Real Estate Securities SMA
• REIT Income Portfolio
• PowerShares Active U.S. Real Estate Fund

Important information

Blog header image: dies-irae/Shutterstock.com 

A real estate investment trust (REIT) is a closed-end investment company that owns income-producing real estate.

Cash flow is the net amount of cash and cash equivalents generated by a business.

The Dow Jones Equity REIT Index is designed to measure all publicly traded US real estate investment trusts classified as equity REITs according to the S&P Dow Jones Indices REIT Industry Classification Hierarchy.

The S&P 500^® Index is an unmanaged index considered representative of the US stock market.

Please note that the products listed are not available to all investors. Please contact your financial advisor to see which products are available to you.

Investments in real estate-related instruments may be affected by economic, legal or environmental factors that affect property values, rents or occupancies of real estate. Real estate companies, including REITs or similar structures, tend to be small- and mid-cap companies, and their shares may be more volatile and less liquid.

Mortgage- and asset-backed securities are subject to prepayment or call risk, which is the risk that the borrower’s payments may be received earlier or later than expected due to changes in prepayment rates on underlying loans. Securities may be prepaid at a price less than the original purchase value.

The opinions expressed are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals. All data provided by Invesco unless otherwise noted.

The products listed are subject to certain other risks. Please see the current prospectus or offering document for more information regarding the risks associated with an investment in the fund.

Walter Stabell III
Senior Client Portfolio Manager

Walt Stabell is a Senior Client Portfolio Manager with Invesco’s Investment Services Group. In this capacity, he works with Invesco’s real estate, energy and convertible securities fund management teams, acting as their representative to consultants, as well as institutional and retail clients around the world. His responsibilities include client relationship management, client service and assisting the various sales teams with new client development. He has more than 31 years of industry experience, including 17 years as a portfolio manager.

Prior to joining Invesco in 2006, Mr. Stabell served as a senior vice president and senior portfolio manager, overseeing a variety of investment portfolios, for BBVA Compass Bank. Prior to joining BBVA Compass in 2003, he worked as a senior portfolio manager of fixed income investments for Vaughan, Nelson, Scarborough & McCullough, L.P. Mr. Stabell began his investment industry career in 1986 as a securities analyst for United Savings of Texas. From 1986 through 1999, he worked for Van Kampen Asset Management and spent the final nine years as a fixed income portfolio manager.

Mr. Stabell is a graduate of Texas A&M University.

Time to read: 4 min

I recently have been traveling around the country participating on a panel titled: “Alternatives: Time to Buy When Others Are Selling?” Spoiler alert — my answer to that question is a resounding “yes.” There are two reasons why.

First, looking back over the past 20 years (as shown in the chart¹ below), a portfolio holding a diversified set of alternatives would have generated higher returns with lower volatility and a lower maximum decline when compared to a standard 60% stock/40% bond portfolio.

Second, the most common mistake I see investors making with regard to alternatives is investing “after the fact.” In other words, they add alternatives to portfolios following a period when equities struggled and alternatives performed well.

For example, many investors flocked to alternatives² in the five years following the global financial crisis of 2008 (GFC), seeking to generate returns and reduce risk. However, the benefits of diversification may have been better realized if investors held alternatives before the 56% decline in the S&P 500 Index that occurred during the GFC.³

Why haven’t investors embraced alternatives?

We are in the midst of an unusual period in financial markets, featuring extremely accommodative monetary policy by the world’s central banks, historically low interest rates, and a US stock market that is generating returns well above (and volatility well below) long-term historical averages.⁴ Against this backdrop, alternative investments have fallen out of favor because many of their unique benefits are not highly valued by investors, such as:

• Unique timing of returns. One common objective of many alternative strategies is to outperform stocks when equity markets are doing poorly. While alternatives have, over the long term, generated returns similar to that of equities, the timing of these returns has differed. As seen in the chart⁵ below, over the past 20 years alternatives have consistently outperformed stocks during periods of equity weakness (although at times the returns were negative), while underperforming stocks during periods of equity strength. With equities enjoying an eight-year bull market and with the GFC bear market moving further into the past, many investors are now more focused on the underperformance of alternatives in bull markets rather than the outperformance during bear markets.

Time period represents January 1997 – June 2017

• Risk reduction. The ability to help reduce risk is one of the main reasons investors allocate into alternatives. As shown in the following chart,⁵ alternatives have historically generated returns with lower volatility and lower maximum drawdowns than those of stocks. With stock market volatility at record lows and with recent pullbacks being short-lived, investors have become less focused on the notion of risk reduction.

• Diversification. The returns of alternatives may have low correlation to traditional equities and fixed income. As a result, they can help diversify a portfolio. While diversification is important, in my experience many investors only like diversification when it works in their favor (when equities are experiencing weak performance). These same investors tend to dislike diversification when it means allocating to anything that is underperforming equities.

Today’s market conditions won’t last forever

In fairness, it needs to be pointed out that one big reason alternatives have been out of favor is the underwhelming performance of many alternative products. In my opinion, performance has been hurt by the market distortions created by the extremely accommodative monetary policy that has been in effect post-GFC. Specifically, we have seen essentially a one-way bull market for stocks, along with historically low volatility and interest rates. These factors have combined to create a challenging environment for alternatives, especially those seeking to generate returns through actively trading across the global markets on a long and short basis.

While I have no idea how long the current market environment will last, I am confident that the combination of high stock returns and low risk won’t last forever, and that these will ultimately revert to be more in line with long-term historical averages. Furthermore, I think current valuations are high, as evidenced by record-setting US stock market indexes, and I also believe that risk is being undervalued, as shown by the low level of the VIX.⁶ On a global basis, there are a number of potential risks to markets, such as the ability of central banks to unwind their accommodative monetary policies, the impact of the nomination of a new chairman of the US Federal Reserve, the future of the European Union, the ability of Britain to execute its exit from the EU, instability in North Korea, and potential fallout from the renegotiation of trade agreements, such as NAFTA.

In many ways, today’s environment reminds me of the tech-led bull market of the 1990s. Back then, investors poured into high-flying tech stocks and self-directed brokerage accounts. It appeared that picking stocks was easy and advice from financial advisors was unnecessary. Today, investors increasingly turn away from active management in the belief that a passive, low-cost approach is the way to go.

When the tech bubble finally burst in early 2000, resulting in a two-year bear market and an 80% decline in the Nasdaq Composite Index, investors realized that the stock market was more challenging and risky then they imagined. Furthermore, they once again appreciated the value of a skilled and experienced financial advisor, as well as the importance of diversification and risk mitigation. Many such investors then took a fresh look at alternative investments.

I have no doubt that investors will learn similar lessons when the inevitable happens and more challenging conditions replace the current desirable environment we have enjoyed for years. Given where we are in the current market cycle, I strongly encourage financial advisors and investors to consider adding alternatives as they begin the process of reviewing and adjusting their portfolios for the upcoming new year.

Important information

Blog header image: ImageFlow/Shutterstock.com

1 Source: StyleADVISOR. Alternatives portfolio represented by a portfolio comprising allocations to each of the following alternatives categories: Inflation-hedging assets, represented by 15% FTSE NAREIT All Equity REIT Index and 5% Bloomberg Commodity Index. The 15%/5% split reflects Invesco’s belief that investors tend to invest in strategies with which they are more familiar. Principal preservation strategies, represented by 20% BarclayHedge Equity Market Neutral Index. Portfolio diversification strategies, represented by 12% BarclayHedge Global Macro Index and 8% BarclayHedge Multi-Strategy Index. Multi-strategy is underweighted in this example due to its potential overlap with global macro. Equity diversification strategies, represented by 20% BarclayHedge Long/Short Index. Fixed income diversification strategies, represented by 10% S&P/LSTA US Leveraged Loan Index and 10% BarclayHedge Fixed Income Arbitrage Index. Equities represented by the S&P 500 Index. Fixed income represented by the Bloomberg Barclays U.S. Aggregate Bond Index. Risk is measured by standard deviation, which is defined as a measurement of a portfolio’s or index’s range of total returns in comparison to the mean. Maximum decline refers to the largest percentage drop in performance.

2 Source: The Cerulli Report, Alternative Products and Strategies 2014, data from January 2009 to March 2014.

3 Source: Bloomberg L.P., data from Oct. 9, 2007 to March 5, 2009.

4 Source: Lipper, Inc., data through Nov. 30, 2015.

5 Source: StyleADVISOR. Alternatives are represented by a portfolio comprising equal allocations to alternative assets, represented by FTSE NAREIT All Equity REIT Index, Bloomberg Commodity Index; relative value strategies, represented by BarclayHedge Equity Market Neutral Index; global investing and trading strategies, represented by BarclayHedge Global Macro Index, BarclayHedge Multi Strategy Index and BarclayHedge Currency Traders Index; alternative equity strategies, represented by BarclayHedge Long/Short Index; and alternative fixed income strategies, represented by Credit Suisse Leveraged Loan Index, HFN Fixed Income Arbitrage Index and BarclayHedge Fixed Income Arbitrage Index. The performance of individual alternative investments will differ from that of the index. Equities represented by the S&P 500 Index. Fixed Income represented by the Bloomberg Barclays U.S. Aggregate Bond Index. Traditional 60/40 Portfolio represented by 60% S&P 500 & 40% Bloomberg Barclays U.S. Aggregate Bond Index. An investment cannot be made directly in an index. The period represented is January 1997 through December 2016. Past performance is not a guarantee of future results.

6 The VIX is a measure of volatility of the S&P 500 Index.

For purposes of this analysis, only the performance of liquid alternatives is included. The reason for this is that liquid alternatives are widely available to all investor types. In contrast, illiquid alternatives (e.g. private equity, venture capital, direct real estate, etc.) are only available to high net worth and institutional investors and are not available to retail investors.

BarclayHedge indexes reflect performance of hedge funds, not of retail investment strategies, and are used for illustrative purposes only solely as points of reference in evaluating alternative investment strategies.

The BarclayHedge Currency Traders Index is an equal-weighted composite of managed programs that trade currency futures and/or cash forwards in the interbank market.

The BarclayHedge Equity Market Neutral Index includes funds that attempt to exploit equity market inefficiencies and usually involves being simultaneously long and short matched equity portfolios of the same size within a country.

The BarclayHedge Fixed Income Arbitrage Index includes funds that aim to profit from price anomalies between related interest rate securities.

The BarclayHedge Global Macro Index includes funds that carry long and short positions in any of the world’s major capital or derivative markets.

The BarclayHedge Long/Short Index includes funds that employ a directional strategy involving equity-oriented investing on both the long and short sides of the market.

The BarclayHedge Multi-Strategy Index includes funds that are characterized by their ability to dynamically allocate capital among strategies falling within several traditional hedge fund disciplines.

The Bloomberg Barclays U.S. Aggregate Bond Index is an unmanaged index considered representative of the US investment grade, fixed-rate bond market.

The Bloomberg Commodity Index is a broadly diversified commodity price index.

The Credit Suisse Leveraged Loan Index represents tradable, senior-secured, US dollar-denominated, non-investment grade loans.

The FTSE NAREIT All Equity REIT Index is an unmanaged index considered representative of US REITs.

The HFN Fixed Income Arbitrage Index includes funds that attempt to exploit pricing inefficiencies between credit sensitive instruments which may include government or corporate debt, structured securities and their related derivatives.

The NASDAQ Composite Index is the market capitalization-weighted index of approximately 3,000 common equities listed on the Nasdaq stock exchange.

The S&P 500^® Index is an unmanaged index considered representative of the US stock market.

Past performance is not a guarantee of future results. An investment cannot be made directly in an index.

Alternative investments can be less liquid and more volatile than traditional investments, such as stocks and bonds, and often lack longer-term track records.

Alternative products typically hold more non-traditional investments and employ more complex trading strategies, including hedging and leveraging through derivatives, short selling and opportunistic strategies that change with market conditions. Investors considering alternatives should be aware of their unique characteristics and additional risks from the strategies they use. Like all investments, performance will fluctuate. You can lose money.

Investing in stock involves risks, including the loss of principal and changes in dividend policies of companies and the capital resources available for dividend payments. Although bonds generally present less short-term risk and volatility than stocks, investing in bonds involves interest rate risk; as interest rates rise, bond prices usually fall, and vice versa. Bonds also entail credit risk and the risk of default, as well as greater inflation risk than stocks.

Diversification does not guarantee a profit or eliminate the risk of loss.

Walter Davis
Alternatives Investment Strategist

As Alternatives Investment Strategist, Walter Davis serves as Invesco’s primary alternatives representative to retail, high net worth and institutional clients across the major broker dealers, wirehouses and RIAs. He is responsible for collaborating across Invesco’s alternative strategies to develop a cohesive alternatives education program for financial advisors and investors.

Prior to joining Invesco in 2014, Mr. Davis served as a managing director in Morgan Stanley’s Alternative Investments Department, and earlier as director of High Net Worth and Institutional Sales. Prior to Morgan Stanley, he worked at Chase Manhattan Bank in the Alternative Investments Department. He has worked in the industry since 1991.

Mr. Davis graduated cum laude with a BA in economics from the University of the South. He earned an MBA in finance and international business from Columbia Business School. He holds the Series 3, 7, 24 and 63 registrations.