IU: Where do you see quant funds compared to active funds these days?

Sauter: The distinguishing feature between quantitative methodologies and active management is that we're not using fundamental techniques such as talking to competitors and evaluating corporate management. But in quantitative modeling we're still trying to beat the market, just as with an actively managed mutual fund. We've got 15 different quant funds with a total of around $20 billion in assets. Most of them are internally managed. Over the long term, their track records have been favorable. But over the past 18 months, they've had difficulties.

IU: How so?

Sauter: A lot of hedge funds are quantitative in nature and have been deleveraging. As they've had to sell off positions, they've put pressure on the same sort of stocks many of our quant funds own. And every product has a down cycle. This is definitely one of those times for quantitative managers. We're anxiously waiting for the other side of the cycle.

IU: With stock funds undergoing their worst 10-year period on record, is the case for building portfolios around equities somewhat diminished?

Sauter: We don't think the past decade has done anything to alter the long-term case for equities. We think the reason why there's a risk premium with equities is due to periods like what we're going through these days.

IU: How about international equities, which have been hit even harder lately than domestic equities?

Sauter: Our view on U.S. versus international is one of trying to gain broader diversification. Investors should realize that diversifying into international markets helps smooth overall portfolio returns over the longer term, but only at the margin. Greater diversification can actually be gained by investing in other asset classes such as bonds.

IU: What about alternative asset classes such as commodities?

Sauter: Other diversifiers can be useful in a portfolio. Investors need to have rational expectations, though. A lot of people rushed into commodities a year ago and probably had too-high expectations about their performance. Over the long term, performance expectations for commodities would be in the 6-8% average annualized return range.

But many investors have been projecting short-term return trends—when commodities were soaring to historic levels—into their future asset allocation plans. Those were probably too high.  Nevertheless, the advantage of owning commodities and other diversifiers isn't necessarily to increase overall returns. They're useful as a means to smooth return streams.

People need to avoid irrational exuberance over alternative asset classes.

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