Hedged equity, growth stocks and active management are the keys to equity outperformance in 2016, said Brad Neuman, investment analyst at Alger Funds.
Neuman said the market is typically in a more mature phase when the Federal Reserve is raising interest rates and macro trends give way to more idiosyncratic, or stock-specific, factors. As a result, Neuman said active stock-picking strategies such as hedged equity, which takes advantage of both undervalued and overvalued securities, should perform well.
Furthermore, he said market volatility is expected to rise as the Fed embarks on its rate-hike strategy, which makes it a good environment for hedged equity as the asset class typically exhibits lower volatility due to its short exposure.
According to Alger, hedged equity has historically beaten the overall market in a rising-rate environment. Over the past three tightening cycles, hedged equity, as represented by the HFRI Equity Hedge Index, outperformed the S&P 500 index by an average of 630 basis points annually.
Neuman added that he sees growth stocks continuing to trump value in the coming year. The iShares S&P 500 Growth ETF (IVW) - Get Report is up 6% year to date in 2015 compared to a 3% drop in the iShares S&P 500 Value ETF (IVE) - Get Report .
"There's a premium put on growth in the mature phase of a cycle and investors are really looking for companies that can generate their own growth through market share gains within the economy rather than simply being dependent on the economy," said Neuman.
Finally, Neuman said investors who are nervous about the fixed-income portion of their portfolio, due to the potential for higher rates ahead, should consider selling some of their bonds and putting the proceeds in a hedged equity fund.
"You are not taking too much undo risk doing that, and you might even benefit from rising rates," said Neuman.