Should fund companies rethink the ways they measure risk? Amid a rush into alternatives, will fund providers be introducing many more long/short or multifactor products?

Money Management Executive put those questions and many more to Aye Soe, senior director for global research and design at S& P Dow Jones Indices, to get her assessment of how the fund industry environment is changing.

For almost all of investing history, fixed income has been seen as the most prominent and most popular non-correlated asset against equities. But we've seen notable periods where that hasn't been the case. What's your take on that? And what might the industry expect?

We have to take a step back and look at fixed income over the long term, and what is its role in the portfolio perspective? People are trying to generate total returns from fixed income. But that is not the role of fixed income. If you look at the asset class returns over history, they're less volatile than equity, and they're supposed to serve as a diversifier in the portfolio perspective. You have to remember that, and you have to have a long-term perspective of what the role of that asset class is in the portfolio. But I've seen strategies where fixed income is meant to be a total return generator.

Do you think for managers looking at the fixed-income worldthat it's best to look as broadly as possible - meaning U.S. government debt, corporate debt, international market debt?Or should some sectors be emphasized?

Some sectors are more volatile, more rate sensitive, more credit sensitive. It's just like with equities. You have different market cap ranges and styles, and each has a different risk return profile, and hence, you allocate accordingly based on your risk return objectives. I think that is the same as fixed income. You look at the different sectors of the fixed-income market, and you have to do your homework and allocate accordingly.

Given the recent comments from the Fed about expectations for inflation, what role do you think TIP should have?

TIPS are a good inflation hedge. But TIPS are not the only asset that you can use. You should have a broad multi-asset portfolio, with an outcome that is to hedge inflation, because we've done research across asset classes, and we believe in a multi-asset class, inflation-hedging strategy.

Regarding TIPS, do you think that there's more risk than there might otherwise be, or do you think it's a tried and true portion of a well-balanced portfolio?

It's tried and true, but I do feel that in order to get truly diversified you have to think what is your investment objective or the outcome that you want? You want to hedge inflation. You want to preserve capital and in the process withstand the market cycles. So yes, TIPS. But TIPS is just the one portion of the picture in your portfolio. So there ought to be other inflation hedging abilities. At the moment, nobody's concerned about inflation.

What do you think are the biggest and most important developing marketing trends, within the fund industry?

In the ETF world right now, we're seeing greater awareness toward risk factor diversification. And so in some ways, the fund industry led the path with diversified strategies, especially if you're in active management; some of the strategies were wrapped in the fund, and available to the investors. Now in the ETF world, we see that happening, as well. A lot of the smart beta movement is really based off this greater awareness toward risk factor diversification. We have an idea of what we will see. We will probably see long/short strategies across all asset classes.

It sounds like you're saying that long/short funds, more of them, are being developed.

We might be two or three years away from it, but we will get there.

Why would it take that long?

We still need greater understanding from the market. Sometimes, we in the indexing or ETF world, could be five steps ahead. But for the investing public, you've got to differentiate between the institutional and retail.

Any other new products you see coming?

In the ETF world we'll see more multifactor strategies. And then from there the national evolution will be the long/short, multifactor, multi-asset class. Because of the way the market structure is. And a lot of that is available via active ETFs or mutual funds. But I think that the ball is already rolling, so we'll see more targeted outcome-oriented solutions on strategies, too, like I mentioned, about inflation hedging. That's your goal, right? You have an income, where you want income. We'll see more greater multi-asset strategies center around a single outcome.

Do you think that there are certain areas within the fund industry where there's been excessive product development? I ask in the sense that there are a large number of specialized funds.

There are. But it's up to the individual to do their homework. The marketplace is going to keep on innovating, so that is why education is probably the single most important thing right now for an investor.

You answered from the perspective of the investor.What do you think the answer might be from the perspective of the fund companies?

I think that they'll keep on innovating and offer different tools or building blocks because every investor is different.

Is it always innovation?

I tend to view it as innovation. You have Version 1.0, and then there will be 2.0, and it's not necessarily a bad thing.

Tell me about the active versus passive, your thoughts on that.

I think there are asset classes where passive probably works better. And then there are some asset classes where active strategies work better. I come from an index provider, a lot of people would say, "Oh, you have a vested interest in saying passive wins." I don't think that's the case. The goal through our research is to educate the marketplace, and also point out areas where one might do better than the other. And sometimes it's not actually in favor of passive. We put the numbers out there and let the investor decide.

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