Continuing our look at ideas on asset allocation and the approaches wealth managers take, we examine the use of hedging tools to manage risk, as well as a set of broad themes that have emerged this year.

This year geopolitical news has been volatile. While drama associated with US tariffs and other flashpoints has not always shaken markets as much as might be assumed, wealth managers have still had plenty to contend with.

One clear development is that private banks and others are using derivatives and hedge funds to manage risk.

An oft-quoted volatility indicator, the CBOE’s VIX Index – which tracks options prices in the US equities market – spiked dramatically shortly after President Donald Trump’s 2 April “Liberation Day” tariff announcement. When, a few weeks later, a 90-day stay of execution on tariffs was announced, the index tumbled. Volatility has since declined, with occasional interruptions, and recently bottomed out. The index stood at 16.36 at the time of writing. The 2025 peak was 52.33 on 9 April.

Periods of calm are often the right time for investors to “check the roof for leaks.” So what measures should private banks and wealth managers use to weather future storms?

Managing storms
Investors can employ “tactical asset allocation overlays” to generate returns uncorrelated with other markets while also managing risk. Hedge funds – sometimes frowned upon by figures such as Warren Buffett for their fees and patchy performance – continue to play a role in wealth managers’ toolkits.

“One of the main ways we tap into volatility is through active management or through hedge funds,” Willem Sels, global chief investment officer for global private banking and premier wealth at HSBC, told this publication.

So far this year, hedge funds have performed close to long-only equity portfolios. Hedge Fund Research data show that equity hedge strategies – designed to deliver returns in different market conditions – produced gains of 10.75 per cent between January and August, according to the HFRI Equity Hedge (Total) Index. By comparison, the MSCI World Index of developed countries delivered total returns of 13.76 per cent in US dollar terms, including reinvested dividends.

“Many of the headlines that trigger volatility are difficult to predict, but once markets move there are often dislocation opportunities that active managers and hedge funds can exploit,” Sels said.

“Using derivatives is a second option, but clients are often more interested in selling volatility when it spikes to generate income, rather than paying for call and put options (even when volatility is low).”

(A call option gives the holder the right, but not the obligation, to buy an asset at a specific price by a specific date; a put option gives the right to sell on the same terms.)

Alain Zeitouni, head of multi-asset, EMEA, Russell Investments, described options as a non-negotiable tool.

“Options are an essential part of investor toolkits used to manage portfolios and adjust market exposures in real time. Systematic hedging is very expensive in terms of premium paid, so options can be used opportunistically if and when they are cheap to trade,” he said.

“At Russell Investments, we have developed a proprietary sentiment indicator. When it flags that markets are too complacent, we start looking at downside protection strategies,” he continued.

“Following Trump’s election, we introduced put/spread collars in our portfolios to protect against a 15 per cent fall in equity markets while giving up any rally above 10 per cent. As markets were unconcerned about volatility at the time, these options were put on at zero cost, which made the trade especially attractive. This proved extremely valuable during the volatility at the end of the first quarter of 2025, when the options offered full protection and were sold at a significant profit.”

He added: “Options are sophisticated instruments, mostly used as risk-management tools. They act as an insurance method: a premium is paid to protect portfolios against equity downside, just as with home insurance. If the risk does not materialise, a few basis points of performance are offset, but if it does, investors benefit from protection.”

The AI element
As readers might expect, artificial intelligence is reshaping portfolio management – particularly in risk control and monitoring “style drift.”

McKinsey & Co noted in a 16 July report that generative AI is “transforming the way insights are generated and decisions are made,” adding that it could boost efficiency by up to 8 per cent.

“Analysts are using gen AI-powered research assistants to synthesise data from earnings calls, financial reports and conferences, accelerating insight generation. Portfolio managers are leveraging gen AI tools to refine strategies, narrow investment options and optimise portfolio construction. Enhanced risk models and automated reporting are further supporting a more data-driven investment approach,” McKinsey said.

The points about AI and the aforementioned use of hedging tools feed into the way that asset allocation ideas and techniques are changing, as outlined here.

Market themes
Looking back on 2025 so far, HSBC’s Sels commented: “We had the Trump tariffs and the mayhem – briefly – this caused. Globalisation appears to be in reverse; supply chains are disrupted. The US dollar’s role as a reserve currency is being challenged, though obvious rivals are hard to find. Gold has risen. There has been an allocation shift towards Europe, encouraged by the German/EU defence and infrastructure drive.

“On the flipside, markets have recovered considerably, buoyed by hopes that tariffs would eventually be cancelled or at least less severe than feared. The American economy shows remarkable resilience, although there are concerns about debt, tax and fiscal burdens.”

Sels added that HSBC had shifted allocations during the year:

“After the temporary weakness in risk assets in March and April, we added to risk assets and rotated from European back into US equities. We hold on to that positive US stock view and our global equity overweight. We are neutral on global bond markets but overweight in gold and hedge funds. While de-dollarisation is likely to be only gradual, we do foresee some mild USD weakness driven by Federal Reserve rate cuts.”

Overlooked assets
Zeitouni pointed to convertible bonds as an overlooked area: “Due to very narrow leadership in global equity markets, convertible bonds lagged through to end-2024, with very limited upside capture. Many investors capitulated. With the boom in AI, especially in China, the increased likelihood of crypto regulation in the US, and the strong performance of the defence sector, the asset class has recovered sharply, delivering equity-like returns year-to-date with half the volatility.”

HSBC’s Sels sees China as a significant opportunity:

“We are overweight Chinese equities. Global investors are underweight relative to benchmarks. China’s technological innovation is impressive – particularly in AI, internet, ecommerce, software, smartphones and robotics. Overcapacity has weighed on profitability, but new initiatives should ease this and improve earnings growth.

“As valuations remain well below developed and most emerging market peers, China looks cheap. A return of foreign investors could lift valuation multiples,” he said.

On fixed income, Sels added: “We think bond returns will improve as the Fed moves towards rate cuts. This is likely to flatten the yield curve between the five- and 10-year points. As cash rates fall, more investors will shift into bonds. Investors should extend maturities beyond five years to seven or 10.”

Balancing act
Tessa Mann, multi-asset strategy director at WTW, said her firm is tactically neutral on equities over the next six to 24 months.

“Inflation remains above central bank targets at 2.9 per cent year-on-year. It has proven sticky, with tariffs pushing up consumer and auto prices. We don’t assign precision to how much further tariffs could affect inflation and growth.

“However, the US economy has shown resilience, with GDP growing at an annualised 3.3 per cent year-on-year. The labour market is cooling but still tight. AI has become a new earnings engine, with US tech firms reporting aggregate growth above 20 per cent. Inflation, while elevated, has started trending lower, offering relief to consumers and markets,” she said.

“This backdrop leads us to a neutral stance on equities overall, including US mega-caps. We see relative value in Japanese equities, where reforms, governance improvements and supportive policy have driven strong performance.

“For risk management, we remain constructive on bonds, given yields above 4 per cent on US Treasuries and similar quality assets. Gold also deserves a place, benefiting from falling rates and geopolitical risk. In this environment, a balanced, diversified portfolio anchored by quality assets and robust risk management remains the most prudent approach,” Mann said.