Summary

000:03:20 - Global Economic Outlook for 2026

Discussion on the International Monetary Fund's projections for global GDP growth and inflation
rates for 2026.

00:04:25 - Market Volatility and AI Impact

Examination of the recent market volatility driven by the growth of AI capabilities and its impact on
business models.

00:05:03 - Mike Macquarie's Opening Comments

Mike Macquarie's initial thoughts on the current market environment and the influence of AI on
risk-taking and diversification.

00:06:08 - Macro Backdrop and AI's Influence

Detailed discussion on the macroeconomic backdrop, the role of AI, and its implications for
portfolio construction.

00:08:30 - Scale and Investment in AI

Analysis of the scale of investment in AI, the financial implications, and the potential risks for
markets.

00:10:29 - Leverage and Cost of Capital

Discussion on the increase in leverage due to AI investments, the cost of capital, and the
potential impact on markets if yields rise.

00:11:44 - Physical Constraints of AI Buildout

Examination of the physical constraints in scaling up AI, including power supply, data centers,
and infrastructure needs.

00:14:38 - Geopolitical Risks and Market Impact

Overview of geopolitical risks, including US-China strategic rivalries, and their impact on markets
and investment opportunities.

00:17:01 - AI's Potential for Productivity Growth

Discussion on the potential for AI to spark a productivity boom and its implications for long-term
economic growth.

00:19:01 - Active Management and Market Positioning

Insights into the importance of active management in the current market environment and the
positioning of portfolios.

00:21:26 - Diversification and Portfolio Construction

Discussion on the need for intentional diversification in portfolio construction and the limitations of
traditional shock absorbers like long-term bonds.

00:23:17 - Geopolitics and Investment Opportunities

Exploration of how global fragmentation and strategic rivalries create investment opportunities in
defense, energy, and infrastructure.

00:27:03 - Opportunities Outside the Stock Market

Analysis of compelling investment opportunities outside equities, including private credit,
infrastructure, and emerging markets.

00:29:51 - Diversification Mirage

Explanation of the concept of a diversification mirage and why traditional diversification strategies
may be less reliable today.

00:31:35 - Importance of Hedge Funds

Discussion on why hedge funds are more relevant in the current market environment and their
role in diversification.

00:34:25 - Hedge Funds in the Current Cycle

Examination of the unique aspects of the current cycle for hedge funds and key considerations for
investors.

00:38:27 - Implementing Hedge Funds in Portfolios

Practical advice on how to integrate hedge funds into traditional portfolios, focusing on
market-neutral multi-strategy funds.

00:42:21 - Key Takeaways on Diversification

Summary of the main points on diversification, emphasizing the need for creative and proactive
portfolio desig

Paul O'Connor:

Hello all and welcome to the Network Portfolio Construction Podcast series. I'm Paul O'Connor and the role at Netwealth is as head of investments. We're fortunate to have Mike McCorry joining us today on the podcast who is the Chief Investment Officer for BlackRock's Australian Business. Given Mike's role as chief investment officer or CIO, I thought we'll step back and look at the global macro backdrop that's shaping markets as we move through 2026. Then we'll attempt to connect that macro to a very practical portfolio construction question. How do we diversify outcomes when the traditional diversifiers seem to be proving less reliable? BlackRock Investment Management Australia Limited is a wholly owned subsidiary of BlackRock Inc. It's publicly listed on the New York Stock Exchange. The company has a majority of independent directors on its board. BlackRock is the largest investment manager in the world, managing almost US $12 trillion in assets under management and is a provider of global investment management, risk management, and advisory services to institutional and retail clients around the world, and offers capabilities across equity, fixed income, cash management, alternative investments, and real estate strategies.

Michael McCorry, PhD, managing director is BlackRock Australia's chief investment officer and a member of BlackRock Australia's Board and Executive Committees. Dr. McCorry or Mike's prior roles all involve leading portfolio management and research teams across equities, fixed income and global macro. He joined the firm in 1997 as head of research for Australia with responsibility for the ongoing development of Australia's active investment strategies. Prior to joining the firm, Mike was with the Securities Institute Research Center of Asia Pacific and taught at the University of Sydney. Mike earned a BS degree in science and MBA degree in finance and a PhD degree in finance from the University of Memphis. There are 17 BlackRock managed funds and managed models on the network super and IDP as investment menus. In addition to the full range of iShare index funds and ETFs covering diversified strategies and all the major asset classes.
The international monetary funds anticipating global GDP growth of around 3.1% in 2026. So similar to 2025, with the developed world projected to grow at 1.8% and the emerging economies at 4.1%, which should assist in supporting financial markets over the year ahead. In addition, inflation continues to moderate globally and is expected to be around 3.8% in 2026 with Australia's recent rising inflation being an exception. Moderating inflation will assist towards pressure oil cash rates and bond yields, which again, should be a positive for markets. But geopolitical risks still appear elevated and certainly contributed to market volatility last year, courtesy of President Trump's trade policies, ongoing Middle East tensions and the prolonged Ukraine war. So this could be a continued headwind for the markets in the year ahead. So from a macroeconomic viewpoint, all seems reasonably positive for the year ahead. However, so far this year, we've seen volatility spike across developed markets.

This volatility though appears courtesy of the fast pace growth of AI capabilities and markets trying to understand the impact AI will have on business models and their profitability going forward. So I'll certainly be interested in understanding Mike's thoughts on the topic. So Mike, thanks for joining us on the podcast. It's great to have you. How about help you provide a few framing comments and then we'll get into the questions.

Mike McCorry:

Thanks, Paul. It's great to be here and thanks for having me on the podcast. To set the scene, we're in a market environment where a small number of really powerful mega forces are driving a disproportionate share of outcomes, and AI sits right at the center of that, as you mentioned. The scale and speed of what's happening in AI is pushing up against real constraints, and that changes the way we need to think about both risk taking and diversification. The key portfolio implication is that what looks like diversification on paper, could actually be a mirage. It could be a very concentrated bet in practice. And with bonds not consistently delivering the negative correlation to equities that investors became used to over the last couple of decades, it's important to find truly differentiated sources or returns. That's where market neutral, multi-strat hedge funds come into play, but we'll get to that later.

Paul O'Connor:

Okay, Mike. So to kick up on the macro front, what's the big picture backdrop you're watching as we head through 2026? And what are the dominant forces shaping growth, markets and portfolio construction at the moment?

Mike McCorry:

For me, the big picture backdrop is one of structural transformation. We're in a period where a small number of very powerful forces are driving outsized share of economic and market outcomes. The standout among these is artificial intelligence. AI is right at the center of everything. The scale and speed of the AI boom are pushing up against physical limits, financial limits, and political limits, which means we have to rethink our approach to both taking risk and diversifying the portfolios. In this kind of environment, there's no real neutral stance. Even if you just hold a broad market exposure, you're implicitly making some big directional calls because of the concentrated nature of those big market drivers. Take AI, for example. The AI build out is seeing many to be moving larger and faster than any technological revolution we've experienced before. If we think about steam, electricity, automobiles, the internet, cell phones, AI's moving much faster.
And unlike past digital waves that could be relatively capital light, AI is extremely capital intensive. It requires massive upfront investments in things like computing power, data centers, and importantly, energy grid infrastructure. As a result, the decisions of just a handful of companies now carry macroeconomic weight. We're seeing this in markets. A few big tech firms are so influential that you can't avoid making a big call on that AI one way or the other. In other words, broad market performance has become so concentrated that avoiding these trends is almost impossible without stepping out of the market, which we don't want to do.

Paul O'Connor:

I think it'd be good to dig a little further into the scale of the AI boom, Mike. What's different this time around, particularly in terms of that investment required in AI and what risks is this creating for markets? I mean, you mentioned a small number of companies having an outsized influence on the market, and are there any practical constraints that might slow this story?

Mike McCorry:

One of the big differences now is a sheer scale of money pouring into AI. We're talking trillions of dollars of planned global investment by the end of the decade. Much of that is concentrated in the US. For me, the core question is whether the future revenues from AI justify that kind of spending. Even if at the economy-wide level, AI ultimately delivers huge gains, there's a timing issue. The spending is happening now, upfront, while a lot of the payoff in terms of revenue will come much later. That mismatch, heavy investment now versus earnings later, can put real pressure on financing. Companies may need to borrow more, which pushes leverage higher, and it makes the whole system more vulnerable to shocks. In the meantime, even if AI works in general, there's no guarantee that the specific companies investing heavily today will be the ones that capture the benefits.

Think about the dominant net browser, Netscape at the beginning of the internet revolution. It died. Thinking through, are these companies the ones that are going to be the real winners down the track? That's a big challenge for investors, and we think it lends itself towards active management.

Paul O'Connor:

So that mismatch you've described, hemi-spending now, but hopeful revenues later, has obvious financing implications. How are you thinking then about leverage, the cost of capital and what it means for markets if yields do move higher?

Mike McCorry:

Because of this front loaded investment and backloaded payoff, we're already seeing an increase in leverage. The largest tech firms do have the capacity to borrow, and many are taking on debt to fund their AI ambitions. This is all happening against a backdrop where governments are also heavily indebted, particularly the US, and the public sector has limited room to genuinely support that growth. So there's more and more reliance on private credit markets to finance many things, which means that credit issuance is rising and the cost of capital may well be pushed up. It also means the whole financial system gets more sensitive to things like spikes in bond yields, worries about government finances and tensions between keeping inflation down and managing those high debt levels.

Paul O'Connor:

Beyond financing, what are the biggest physical constraints? Is it power supply, the rollout of data centers, big or powerful data centers, green capacity, permitting that could slow the AI build out?

Mike McCorry:

Paul, you've nailed it. Aside from the financial aspects, we have to consider the physical constraints of the AI build out. Scaling up AI isn't just about capital. It also depends on the infrastructure, much of which in the US is ancient and needs to be replaced for existing capacity, much less the new AI builds. And we're seeing big needs in power, cooling system, chips, and there's big backlogs there, networking, real estate is becoming somewhat controversial, data centers, permitting and regulation, and the engineering talent and operational folks to run the data centers. If we just focus on power for a minute, you need enough energy to power all of these data centers and the power grids have to be robust enough to deliver that energy reliably. That is a question. Right now, data centers are on track to consume a meaningful share of our electricity capacity within this decade.

That's astounding. Those numbers, depending on which country and which state can be from 25% to the vast majority of the power needs that are being generated. We could easily hit bottlenecks where the grid can't handle the additional load, or we're getting permits for these projects slows everything down. Those bottlenecks could delay AI projects and force companies to spend more on workarounds or upgrades. And if you look at China, they're building out grid capacity and energy infrastructure faster and often more cheaply than we are in the West. So that's a competitive factor as well. Efficiency improvements like better chips or better cooling systems will help stretch resources, but they won't remove the fundamental constraints. The flip side of these challenges is that they highlight investment opportunities. For example, companies involved in upgrading power systems, expanding grid capacity, providing critical minerals for tech, or even streamlining the permitting process might benefit hugely as these bottlenecks get addressed. And given that governments can't foot the bill for this, there's a big role for private capital to play in funding infrastructure need for AI revolution.

Paul O'Connor:

Certainly sounds like an arms race in terms of both capital and infrastructure. So obviously, I appreciate your earlier comment around active management and trying to pick the duration as to when the revenues can actually capture the build out of this capability. If AI is the dominant force driving change then, what does it mean for economic growth? And do you think we could actually see a productivity led growth breakout, which obviously would be something great for Australia, something that significantly lifts the long-term growth trend? And how should investors be thinking about the concentration of this trend and who ultimately captures the value from AI?

Mike McCorry:

There's a lot of talk about AI potentially sparking a productivity boom and possibly raising the long-term growth rate of the global economy. Historically, even major innovations, electricity, automobile, internet, they didn't manage to boost sustained GDP growth beyond the trend of around 2% per year in the US. The BlackRock Investment Institute thinks AI could very well be different. It has the potential to dramatically improve efficiency in pretty much every industry. More intriguingly, AI could accelerate innovation itself. If AI can help us generate and test new ideas faster, say in drug discovery, material sciences, software, then breakthroughs could come more quickly. That scenario, if it plays out, could give us something we haven't had in a long time, a genuine sustained uptick and a trend growth or a growth breakout. But I have to stress, this is not a sure thing. It's a plausible scenario, one the BlackRock Investment Institute believes could happen, but massive investment alone doesn't guarantee it. The technology has to deliver and be adopted widely before we can say, "Growth will structurally shift higher."

Paul O'Connor:

So if we do get a productivity uplift, how should investors think about who captures this value and what evidence would you be looking for that we're seeing a genuine trend growth shift?

Mike McCorry:

So on the question of concentration, who benefits? This is the key question in my mind. AI investment is heavily concentrated in a few big names today. Their fortunes are starting to shape broader economic metrics and likely growth and inflation. If we're at the high end of optimistic expectations, current business plans and revenue forecasts for those companies still might not fully justify the sums of money that they're investing. So the case for AI really paying off might depend on things that aren't on the intermediate horizon. New revenue streams or entire new markets need to be opened up for AI, an economy-wide adoption of AI that lifts all boats. It's very uncertain where the majority of the economic gains will flow. Kind of like at the beginning of the internet, we had some inkling, but we didn't have any concept of how it was going to play out, what we have on our smartphones that didn't even exist back then.
Big tech could capture a lot of it, sure, but maybe other industries will find a way to use AI to their advantage, or we might see brand new companies emerging as AI specialists. This uncertainty is a strong argument for active management. For managers that are digging deeply and understanding the trends, what a company's strength and weaknesses are. It's not enough to just own a broad market index and assume you have AI exposure covered. We need to think carefully about which companies, which sectors, are likely to emerge as the real winners of the AI age.

Paul O'Connor:

You've covered very articulately some very big themes and structured change going on in society and the global markets. So given your comments around active management, it would be great to bring the discussion back to market position. Given everything we've discussed so far, are you still leaning risk on in your outlook? And with this more level capital intensive economic backdrop, how has it changed the way we should be thinking about portfolio construction and the reliability of traditional shock absorbers like duration or long-term bonds?

Mike McCorry:

So despite the uncertainties, we remain broadly risk on in most of the multi-asset portfolios at BlackRock. In practical terms, that means we're still overweight equities, particularly in the US, because that's where the AI momentum is the strongest and it's combined with continued strong earnings growth. The way I see it, AI is such a dominant theme that to be significantly underweight equities could mean missing out on that growth. Now, we always get shocks. NVIDIA's report yesterday, it rallied and it fell today. It was incredibly strong, but we need to look through this. What I'm paying attention to is how the leadership might broaden out going forward. We could see more emphasis on sectors like energy and infrastructure if they become critical to addressing the bottlenecks created by the rapid growth and AI expansion. So it's not a question of whether to invest in AI-driven growth, but I think rather how to invest in it effectively and sustainably.
These days, you can't assume long-term bonds will be the portfolio shock absorber. With inflation risk, policy noise, and bigger rate swings, stocks and bonds can wobble at the same time. So portfolio construction needs to be more intentional. Diversify what drives returns, not just using asset labels of stocks and bonds. Stay mindful of liquidity and add things that can work when markets get choppy.

Paul O'Connor:

If you stay risk on in portfolios, how do you think about protection and diversification, especially given your comments around long-term bonds and that they have not tended to cushion the equity drawdowns in recent years.

Mike McCorry:

Regarding the effects of a more leveraged and capital intensive system on portfolios, it definitely shakes up some of the traditional thinking. Opportunities are emerging outside of equities. For instance, in credit markets and infrastructure finance, because those are areas that stand to grow in a capital hungry world, but at the same time, we have to recognize some tried and true diversifiers might not provide the same cushion they once did. Long-term government bonds, the classic safe haven, have shown they can decline at the same time as stocks under certain conditions. That's a big change from the pattern we grew accustomed to or the past couple decades in a system that's facing ongoing inflation. It feels more like the '70s, '80s, and early '90s, and is loaded with debt. I would generally expect higher overall volatility and potentially more correlated moves during periods of stress.
That means as investors, we have to be more nimble and selective. We might need to lean on things like short-term tactical allocations or alternative diversifiers to manage risk. I think it's all about adjusting the playbook, staying invested in risk assets, but using different tools to hedge and protect the portfolio, like hedge funds as one example.

Paul O'Connor:
Moving to geopolitics, how is global fragmentation and especially the strategic rivalries between the US and China feeding into markets and creating investment opportunities? And I guess on that topic, what's one structural shift in the world of finance that you think people aren't paying enough attention to, Mike?

Mike McCorry:

We start with geopolitics. It's clearly moved back to center stage. The world's becoming more fragmented with strategic competition, especially between the US and China. And that competition is spanning technology, trade, defense, and AI. I think that rivalry matters because AI, in my opinion, will likely shape economic and military leadership. At the same time, Europe is recalibrating. They're increasing defense spending and focusing more on energy security and supply chain resilience. For investors, this fragmentation creates structural opportunities. Defense and aerospace should benefit from sustained spending. Energy and utilities, including renewables and smart grids, they gain as countries prioritize stable domestic power. Infrastructure tied to semiconductors, 5G, critical minerals, and supply chain reshoring also stand to benefit often with government backing. One big shift in finance that I don't think gets enough attention is the rise of stablecoins, and more broadly, the slow march towards tokenizing assets. A few years ago, stablecoins were mostly a niche crypto thing.
Now, they're on the radar of big banks, major institutions, and regulators. At their core, they're digital tokens that are pegged to traditional currencies like the US dollar, and people are starting to use them for payments and cross-border transfers because they can move money quickly 24/7 without going through the usual banking channels with all of the banking delays. Regulation is a big piece of this. Governments are still trying to figure out how to oversee stablecoins, but that work is a key step if they're going to be adopted more widely. Here's an interesting side effect. As stablecoins plug into everyday finance, they could quietly expand the use of the US dollar in countries where local currencies are unstable, that helps people transact, but also means that local central banks may lose a bit of control.

Zooming out, all of this points to a bigger trend. Digital assets and traditional finance slowly blending together. The early innings of a tokenized financial system. It's not going to flip everything overnight, but in five or 10 years, the way we trade assets, the way we settle transactions or even think about money could look very different because of these technologies.

Paul O'Connor:
Outside of the stock market, where do you see the most compelling opportunities right now? And I guess I'm interested in other areas like credit, we've seen the huge growth of private credit, but also the increasing use and acceptance of real assets in portfolios. And I guess also on the flip side, as markets become more dispersed and less predictable, what sort of risks or watch-outs should investors be keeping in mind?

Mike McCorry:

So we start with the question, outside equities. I think private credit remains very interesting, but being selective is critical. The space grew rapidly during the period of low interest rates or near zero interest rates. Those looser underwriting terms and tighter spreads are now being tested. We're seeing stress in some of the smaller borrowers and on some of the newer platforms. I don't think it's systemic, but the dispersion is widening. The key risk is the liquidity mismatch. Investors may expect access to capital before underlying loans mature. Manager quality and disciplined underwriting matter enormously here. A second thing that I think is really interesting is infrastructure. We've talked about that, but I think it's particularly compelling. Massive global need for power grids, the green energy transition, which I haven't talked much about, which I think is very important, data centers and transport networks. Many of these offer stable and many are inflation linked cash flows that can anchor portfolios defensively.

Infrastructure equity, project finance, and infrastructure debt all play a role, especially given the scale of capital required and the limits on the public balance sheets. Emerging markets also offer interesting opportunities, but broad exposure is less attractive than selective positioning. We favor parts of hard currency emerging market debt where fundamentals have improved and compensation is quite attractive. EM equities are more idiosyncratic. Some countries benefit from AI and tech, others from commodity and supply chain shifts, but the common thread in all of this is dispersion. Winners and losers are separating more than they used to. So you really have to know what you own and not assume everything in a category will behave the same way or similarly. In this environment, doing your homework really pays off.

Paul O'Connor:

I'd like to circle back to diversification before we move on to hedge funds. And I've heard you use the phrase diversification mirage. So could you explain to the listeners what you mean exactly by that? And why are the old playbooks, especially relying heavily on long-term bonds for diversification, less reliable in today's environment?

Mike McCorry:

So when I talk about a diversification mirage, I mean a portfolio could appear diversified, but that is actually driven by one dominant force, say AI. Right now, AI led growth and a small group of companies influence a large share of market outcomes. You can't adjust weightings or move to an equal weighted index, but if the same forces are driving returns, you haven't really changed your exposure much. At the same time, traditional diversifiers, particularly long duration government bonds, haven't reliably cushioned equity drawdowns. We've seen stocks and bonds fall together massively like they did in 2022. And that challenges decades of assumptions. Gold can help tactically, but it's not a universal hedge. So diversification still matters, but the automatic version of it doesn't. It requires more intentional construction, thinking carefully about underlying risk drivers and ensuring you truly have exposures that behave differently when stress hits. We need to be thoughtful about how we build resilient portfolios.

Paul O'Connor:

I guess this sets us up perfectly to moving to hedge funds. I guess given everything you've said about the current environment, why do hedge funds matter more right now?

Mike McCorry:

So I think this is exactly the kind of market where hedge funds start to make a lot more sense. When the old set of diversifiers aren't doing their job, you need other ways to spread risk and smooth out returns. The real problem right now isn't just volatility or a chance of a downturn. It's that a lot of the upside is coming from a very narrow set of drivers. AI is an obvious one, but you also see things like persistent inflation, leverage in the system, and very specific geopolitical outcomes moving markets. And when so much price action boils down to just a few forces, you can own a bunch of different stocks or even multiple asset classes and still basically be making the same bet. It's a fragile setup. Hedge funds are designed for environments like this because they're not stuck hugging an index or running long only portfolios.
They've got the freedom to go different places and try to generate returns that aren't tied to the same handful of market themes. The term hedge fund may sound exotic, but it's really just a legal structure. What they actually do can be wildly different. It's not an asset class on its own. You can have hedge funds that are trading equities, credit, FX, commodities, all the global markets, the whole menu. And they're not typically about crazy leverage or huge moonshot bets. The common idea in a hedge fund is they're trying to earn returns through skill and strategy, not just by riding the market. A useful way to frame this is they're trying to isolate alpha from beta. Alpha is the return from specific insights or inefficiencies in markets. Beta is just the market going up or down. So depending on the strategy, they might go long short, they might trade around events or they might arbitrage position.

It's about finding mispricings and taking advantage of dispersion even if the overall market is flat or choppy. And for hedge funds that are highly diversified and market neutral, that's important, being market neutral. They can make money when markets are up or down.

Paul O'Connor:

Just like to dig a little bit deeper into hedge funds. And what about the current cycle makes it unique for hedge funds? And as investors consider adding hedge funds to their portfolios, what are the key caveats or potential peoples they should keep in mind to avoid the common mistakes others have made?

Mike McCorry:

That's a totally fair question. There's this myth that hedge funds are just more risk, highly geared instruments. Most of the time, it's really about risk managed differently, not simply ramped up. The markets we're in right now, where a handful of winners are sprinting ahead and a lot of stuff is lagging behind, creates what we call dispersion. Even if the index is kind of drifting along, underneath the surface, you've got big performance gaps between individual stocks, individual sectors and themes. Hedge funds tend to love that environment because they can try to make money off the differences, not just the overall market direction. So for example, a long-short equity fund doesn't need the whole market to rise. It just needs the stocks that it goes long to outperform the ones that go short. If you nail the winners and the losers, you can even do fine in a flat or down market.

Our relative value hedge fund strategy might focus on the spread between two related assets, for example, two bonds and profit, depending on the way they're positioned, if spreads narrow or widen without needing bonds to broadly rally. Event-driven strategies, zoom in on situations like mergers or restructurings where the outcome of the event matters way more than whether the market is up or down. That's also why hedge funds can complement diversification in different ways. Traditional diversification is usually owned some stocks, some bonds, maybe some real estate, based on the idea that those buckets will behave differently when something breaks. And historically, stocks down, bonds up often works, at least for a long stretch when inflation was contained. But in a world where we have sticky inflation, where it's tending to be above what central banks want it to be, and a lot of leverage in the system, those relationships can fail right when you need them the most.
Correlation can spike and suddenly everything moves together. Hedge funds try to solve that by diversifying by strategy and return source, not just asset label. Instead of asking, "What bucket is this?" They're asking, "What's the actual bet here? And where does the return really come from?" That can create more economic diversification, positions that can pay off for different reasons, not just because the whole market went higher. And in a portfolio, hedge funds aren't there to replace your core stock and bond exposures, they're meant to sit alongside them. Think of them as an extra layer of resilience. In a roaring bull market, they might lag a bit because they're not fully riding the upside, but when things get messy, volatility spikes, leadership changes, regimes shift from low inflation to high inflation, low rates to higher rates, that's when they really earn their key. They can act like a shock absorber. They can help to steady the ride when a lot of traditional assets are all moving the wrong way at the same time.

Paul O'Connor:

You're talking about hedge funds being complimentary to the traditional exposures in a portfolio. So where do they best fit today? And let's just take the traditional 70/30 portfolio, 70% stocks, 30% bonds, how might they implement a daily liquid market neutral multi-strategy fund as a diversifier in that mix?

Mike McCorry:

So on the implementation side, it helps to stop thinking about old school labels and just ask, "What do we want the portfolio to actually do?" If you start with a classic 70/30 stock bond mix and adding a daily liquid market neutral multi-strat hedge fund sleeve, that can be really useful as a diversifier. You're not replacing the core, you're adding a third pillar that behaves differently. A true market neutral multi-strat can go long and short across different markets, aiming for steady returns that don't depend on whether stocks are up or bonds are up. If I'm screening for this, I'm looking for a whole range of things, but I'll distill it down to three. First, I want to find a multi-strat that is truly lowly correlated to stocks and bonds, that is market neutral. I don't want a hedge fund that's basically just a hidden tech bet or loading up on beta.
You can get as much beta you want in ETFs for a handful of basis points. You don't want to be paying performance fees on beta. Second is liquidity, so you can rebalance or get access to it when you actually need it, especially in a stress period. Third and possibly most importantly is risk management. You want a manager that has great risk systems, diversified positions, and can take hits without blowing up. So on returns, a 7 to 9% net target is reasonable for a lot of hedge fund approaches in this environment. And if it's going to do, say, an 8% return with a 3 to 4% risk level, it's genuinely uncorrelated. It's not adding just to return. It's improving the portfolio's overall risk adjusted profile, nice return with low risk and uncorrelated to the rest of the portfolio. Sizing becomes a big question, and it depends on the goal.
If you want this to truly stabilize the portfolio, it usually can't be a tiny allocation. Instead of a 2 or 3% weight, you might need to think about more like a 10 to 15% weight, depending on conviction and objectives. And the mindset matters. You're not buying this to beat equities in the best bull market. You're buying a multi-strat market neutral hedge fund so that in rough years, when stocks are flattered down and bonds aren't helping much, this leave is still trying to grind out mid to high single digit returns. Over the full cycle, that can really smooth outcomes. So the simplest way to say it is, hedge funds work best as the third pillar. When you're worried stocks and bonds could wobble at the same time, in a world where equity leadership is narrow, bond protection is less reliable and regimes can flip quickly, having something that's truly different under the hood can be incredibly valuable. And viewed that way, hedge funds look less like an exotic add-on and more like a practical tool for building a more resilient portfolio.

Paul O'Connor:

To wrap up, if our listeners could take away just one thing from today's discussion that's been very broad about the macro outlook and portfolio construction, what should it be?

Mike McCorry:

I'd say the main takeaway is that diversification still matters. It's just that the old assumptions about diversification may not hold true right now. In a market driven by a few dominant forces, you can't simply rely on the usual playbook of stocks, bonds, and a bit of cash or gold, and assume you're covered. You might need to think more creatively and be more proactive in designing your portfolio's safety nets. In practice, that means deliberately choosing where to take risk and making sure you have the flexibility and a real plan B in place. Don't just hold assets because traditionally, they were labeled safe. Hold them because you understand how and why they'll perform when the environment changes. And as we've discussed, consider introducing truly uncorrelated source of returns like market neutral hedge funds, which could target, say, 7 to 9% return after fees with low correlations to markets and risk levels that are similar to bonds.

Those strategies could help reduce your reliance on any single outcome and make your overall portfolio more resilient. Ultimately, diversification is not dead. It has just evolved. The goal remains the same. We want portfolios that can weather different storms, but we have to be more intentional about how we get there.

Paul O'Connor:

That's a great note to end on there, Mike. So yeah, really thank you for joining us on the Portfolio Construction Podcast series today. It's been a really fascinating discussion, it really has, but from touching on the global macro outlook to then the boom of AI and I guess the various potential winners and losers out of AI, but particularly, at the moment, we're still in that significant capital intensive phase and it's difficult to understand, I guess, who will be the biggest winners. So hence then, I think it rolled perfectly into your comments around the importance of active management there as well. And then finally, obviously your comments around hedge funds and I guess the challenges of continuing to, I guess, evolve our views and the way we build portfolios to adapt to the, I guess, markets and development of society to ensure we still are diversified then, Mike. So thank you very much for your time and your insights.

Mike McCorry:

Thanks for having me, Paul. It's been a pleasure.

Paul O'Connor:

And to the listeners, I hope you've enjoyed the discussion with Mike McCorry today as much as I have. And I certainly thank you very much for joining us on the podcast today, and I'll look forward to you joining on the next install of the Network Portfolio Construction Podcast series. Have a fantastic day, everyone. Thank you.