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Alternative ThinkingAlternative Investments: The Missing Piece in Portfolios?

June 2017 Adam Taback Head of Global Alternative Investments

James Sweetman Senior Global Alternative Investment Strategist

Justin Lenarcic, CAIA Global Alternative Investment Strategist

Tracie McMillion, CFA Head of Global Asset Allocation Strategy

How Can Alternative Investments Help Build a More Effective Portfolio? Alternative investments can help diversify a traditional portfolio and provide the potential for improved risk-adjusted returns 4

How Can Investors Access Alternative Strategies? Certain alternative investment strategies are now available to all investors, although it is important to understand the investment benefits and risk considerations of each structure prior to investing 6

How Can Hedge Funds Help Protect A Portfolio? The investment flexibility of hedge funds has helped investors participate in positive equity markets while helping protect capital when these markets experienced increased volatility 8

How Can Private Capital Potentially Enhance Returns? Private capital provides access to investment opportunities beyond the public markets, resulting in the potential for higher returns than many other asset classes 10

Is Now a Good Time to Use Alternative Strategies? We believe investors should consider diversifying their portfolios with alternative investments in an effort to manage volatility and reduce downside risk while still being able to participate in positive equity markets 12

Please see the last page of this report for the risks associated with alternative investments and for definitions of the indices.

Investment and Insurance Products: NOT FDIC Insured NO Bank Guarantee MAY Lose Value

3Alternative Thinking | Alternative Investments: The Missing Piece in Portfolios?

AlternativeThinking

Helping Investors Understand Alternative InvestmentsPensions, endowments, and institutional investors have long incorporated alternative investments, including hedge funds and private capital funds, in their asset allocation framework. In fact, the average allocation to alternative investments by endowments in 2016 was 53 percent.1

Some individual investors, on the other hand, may not be familiar with these important investment tools, resulting in portfolios that have exposure limited solely to traditional assets, such as stocks and bonds. That may be changing. With an ever-evolving investment environment, many investors—institutional and individuals alike—are recognizing the potential benefits alternative investments can offer and are choosing to include them in their diversified portfolios.

Wells Fargo Investment Institute believes in the importance of looking for ways to diversify portfolios and using strategies focused on unlocking value or complementing traditional allocation strategies. The following provides foundational knowledge on alternative investments. It also illustrates why we believe many investors can benefit from an allocation to these diversifying strategies. It covers a wide range of topics, including:

Potential benefits of alternative investments within the framework

of an asset allocation model

Various structures available to investors and how they differ

How hedge funds can help protect a portfolio during market downturns

Potential investment opportunities that can be accessed through private capital

How alternative investments may prove beneficial in the current

market environment

1 Source: 2016 NACUBO-Commonfund Study of Endowments

How Can Alternative Investments Help Build a More Effective Portfolio?

Alternative Investments May Improve Portfolio ResultsHistory has shown that diversification—putting money into a variety of different types of investments or asset classes—generally has been an effective strategy to help manage a portfolio’s risk and return profile. True diversification, however, is more than a mix of traditional long-only stock, bond, and cash holdings. Although diversification may not protect against market losses, it potentially can enhance performance and help mitigate the risk associated with any one investment or asset class.

What Are Alternative Investments?Alternative investments can help diversify or complement a traditional portfolio through the types of investments owned or the techniques employed. They include asset classes, strategies, and structures that often are different from traditional investments and employ hedging and arbitrage techniques using long and short positions, leverage, derivatives, private investments, and investments in a variety of global markets. Types of alternative investments include alternative mutual funds (liquid alternatives); private funds (hedge funds, managed futures, private equity, and private debt); and certain real assets, such as private real estate and commodities.

Building a Truly Diversified PortfolioWells Fargo Investment Institute provides advice for strategic asset allocation models addressing different investment goals and tolerances for risk. One example—the Moderate Growth & Income With Alternatives Model—is shown below. Our belief is that many investors can benefit from an allocation to alternative investments. As a result, each model includes an allocation to this important asset group.

Wells Fargo Investment Institute Drawing Number: 0517

Strategic Moderate Growth & Income With Alternatives Model Alternative Investments

26%Alternative Investments

and Real Assets

40%Stocks

31%Fixed Income

3%Cash Alternatives

Our Strategic Moderate Growth & Income With Alternatives Model

Our belief is that many investors can benefit from alternative investments

Source: Wells Fargo Investment Institute. Allocations are current as of May 9, 2017, and may change over time. This chart is for illustrative and information purposes only and does not constitute advice or a recommendation of the suitability of any investment strategy, including strategies that allocate to alternative investments.


What Alternative Investments May Deliver

Along with greater diversification potential, alternative investments may deliver other significant benefits to an overall portfolio.

• Exposure to a broader range of investment opportunities and strategies

• Potential for improved risk-adjusted returns

• Less-extreme market cycle peaks and troughs

• Access to less-efficient markets, which can create investment opportunities

• Historically lower correlation—that is, they may respond differently to market conditions—versus traditional investments

Potential Benefits of Alternative InvestmentsThe chart below shows how adding alternative investments to a traditional portfolio of long-only stocks and bonds has historically increased return

and decreased risk. Access to alternative investments generally is limited to investors who meet certain income and net worth eligibility requirements.1

Source: MPI Stylus, Wells Fargo Investment Institute. Data is for January 1, 1990, through December 31, 2016. Standard deviation is a measure of the volatility of a portfolio’s return. The higher the standard deviation, the greater volatility has been. Stock and Bond Portfolio allocation to stocks increases and allocation to bonds decreases in 10-percent increments from left to right. Stock, Bond, and Alternatives Portfolio allocations to hedge funds and private equity is 10 percent each and percentages allocated from left to right (stocks/bonds) are 5/75, 10/70, 20/60, 30/50, 40/40, 50/30, 60/20, 70/10, and 75/5. Stocks are represented by the MSCI World Index, bonds by the Bloomberg Barclays U.S. Aggregate Bond Index, hedge funds by the HFRI Fund Weighted Composite Index, and private equity by the Cambridge Associates U.S. Private Equity Index. This chart and the results shown are hypothetical and for illustrative purposes only. The information does not constitute a recommendation to invest in any particular asset class or strategy and is not a promise of future performance or an estimate of actual returns an investor's portfolio may achieve. The performance results for the Stock and Bond and the Stock, Bond, and Alternatives Portfolios do not represent actual trading, reflect the historical performance of the represented assets, and assume the reinvestment of dividends and other distributions. Unlike most asset-class indices, HFRI index returns reflect fees and expenses. An index is unmanaged and not available for direct investment. Hypothetical and past performance do not guarantee future results. Different investments offer different levels of potential return and market risk. Stock markets, especially foreign markets, are volatile and can decline in response to political, economic, currency, market, and other risks. Bonds are subject to market, interest rate, price, credit/default, liquidity, inflation, and other risks. Prices tend to be inversely affected by changes in interest rates. Hedge funds and private equity funds are speculative and involve a high degree of risk that is suitable only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund and for which the fund does not represent a complete investment program. They trade in diverse complex strategies that are affected in different ways and at different times by changing market conditions and employ aggressive investment techniques, including the use of short sales, leverage, and derivatives. Short selling involves leverage and theoretically unlimited loss potential since the market price of securities sold short may continuously increase. The use of leverage can magnify any price movements resulting in high volatility and potentially significant loss of principal. Derivatives generally have implied leverage and may entail other risks such as market, interest rate, credit, counterparty, and management risks, which may hurt performance. 1 Accredited investors are individuals with annual income of $200,000 ($300,000 for married couples) for the past two years or a net worth greater than $1 million and entities with total assets of $5 million. Qualified purchasers are individuals with investable assets of $5 million and entities with investable assets of $25 million. Please see page 15 for definitions of the indices related to the chart above.


5

6

7

8

9

10

11

Annu

alize

d Hi

stor

ical R

etur

n (%

)

Annualized Historical Standard Deviation (%)

2 4 6 8 10 12 14

5% Developed Market (DM) Stocks75% Bonds10% Hedge Funds10% Private Equity

10% DM Stocks90% Bonds

90% DM Stocks10% Bonds

Stock and Bond Portfolio Stock, Bond, and Alternatives Portfolio

75% DM Stocks 5% Bonds10% Hedge Funds 10% Private Equity

How Can Investors Access Alternative Strategies?

Alternative Mutual Funds Open the Door to More InvestorsUntil the relatively recent introduction of alternative mutual funds, the availability of alternative investment strategies was limited to private placement vehicles that have high net worth and investable asset thresholds.1 With alternative mutual funds, or liquid alternatives, a broader range of investors now have access to certain alternative investment strategies.

Alternative mutual funds attempt to employ some of the same investment strategies typically followed by hedge funds, which can add to the diversification of a portfolio while also lowering its risk by offering exposure to nontraditional investments and

trading strategies as described below. There are differences between alternative mutual funds and hedge funds that are important to understand before considering investing. For example, mutual funds are regulated by the U.S. Securities and Exchange Commission—primarily under the Investment Company Act of 1940—which imposes limitations and restrictions on their investments. These regulations provide for daily liquidity and pricing but also impose limitations on what alternative mutual funds can own and how they can implement their strategy.

Alternative Mutual Fund Strategies Strategies that alternative mutual funds may employ include: Short selling. Looking to profit from investments that decline in value. Leverage. Using borrowed funds to purchase investments that can magnify gains and losses. Derivatives. Purchasing financial instruments, such as futures and options, whose values are derived from that of underlying investments or assets.

Who Should Invest in Alternative Investments? In short, we think all investors should consider including alternative investments in their portfolios. For approximately three decades, investors who met fairly high qualification standards have had access to private placement alternative investments. More recently, mutual funds have been developed that offer some of the benefits of alternative investments to all investors. These benefits include the ability to mitigate downside risk and participate in market gains. Additionally, alternative mutual funds offer greater liquidity, daily pricing, and simpler tax reporting. However, greater liquidity may come with a trade-off as private placement strategies often offer greater potential returns and investment opportunities relative to mutual fund strategies.

1 In general, alternative investments in private placement structures are limited to accredited investors or qualified purchasers. Accredited investors are individuals with annual income of $200,000 ($300,000 for married couples) for the past two years or a net worth greater than $1 million and entities with total assets of $5 million. Qualified purchasers are individuals with investable assets of $5 million and entities with investable assets of $25 million within the meaning of the U.S. securities laws.


How Alternative Mutual Funds Are Different

Alternative mutual funds and private placements have some overlapping portfolio benefits but also significant differences:

Alternative Mutual Funds

Greater flexibility and investment techniques than traditional stock and bond mutual funds

Able to sell short securities and use leverage within regulatory limitations

Cannot invest in private debt or private equity

Limited ability to invest in illiquid securities and strategies due to regulatory constraints

Daily liquidity and pricing

Simplified tax reporting

Typically lower investment minimums

Generally lower fees and expenses

Private Placements

Broadest security and investment technique flexibility

Able to sell short securities and use leverage without regulatory limitations

Can invest in private debt and private equity

Can invest in illiquid securities and strategies

Less frequent liquidity and pricing More complex tax reporting

Typically higher investment minimums

Generally higher fees and expenses

Alternative Mutual Funds’ Role in a PortfolioAlternative mutual funds can complement stock and bond allocations in a portfolio by offering the potential for:

Reduced volatility. Alternative mutual funds seek returns that do not solely track stock and bond markets, so they may reduce a portfolio’s volatility by improving

its diversification.

Protection in down markets. Alternative mutual funds may hold up better than stock funds during an equity market downturn. Avoiding large losses may help an investor stick

with a long-term investing strategy during difficult markets.

Exposure to growth. Many alternative mutual funds can pursue growth opportunities in a wide range of market environments.

There is no assurance traditional mutual funds or alternative mutual funds will achieve their investment objectives. All investing involves risk including the possible loss of principal. For important risk information related to these funds, please see page 15.


How Can Hedge Funds Help Protect A Portfolio?

Hedge Funds Can Add Another Dimension to PortfoliosHedge funds are private, pooled investments that generally are available only to qualified investors. These funds have the ability to use an array of techniques and a variety of investments. Fund managers typically do not rely on the general movement of the equity or fixed-income markets as a key driver of returns. Instead, most have the flexibility to construct portfolios that seek to dampen market risk, attempting to take advantage of mispriced securities; political or corporate events; trends in interest rates, currencies, and commodity prices; or other economic scenarios. This flexibility, paired with some of the most respected investment minds, has resulted in an asset group that can deliver numerous portfolio benefits.

Historically, including hedge funds in a portfolio generally has helped enhance its overall return and reduce its overall risk. We believe hedge funds deserve a permanent allocation in portfolios, regardless of the market environment—but it’s when there’s a market decline or increased volatility that hedge funds often have helped protect a portfolio’s value.

The chart below shows that, in rising markets, hedge funds have participated in the upside but typically lagged equities. However, during down markets, hedge funds have done a much better job of protecting capital than equities and have helped smooth out a portfolio’s overall performance.

Helping Investors Win by Not LosingHedge funds have been able to help protect capital during negative developed market equity markets by experiencing only 18 percent of equity losses while maintaining participation in up markets by capturing 54 percent of positive equity returns.

Up/Down Market Capture Ratios are a measure of investment performance in up and down markets relative to the market itself. A down market is one in which the

index's quarterly return is less than zero.

Source: MPI Stylus. Data as of December 31, 2016. Data shown since January 1, 1990, the inception of the HFRI Fund Weighted Composite Index. This information is for illustrative purposes only. Past performance is no guarantee of future results. An index is unmanaged and not available for direct investment. Index returns do not reflect any fees, expenses, or sales charges. Unlike most asset-class indices, HFR Index returns reflect fees and expenses. Hedge Funds are represented by the HFRI Fund Weighted Composite Index. Developed Markets are represented by the MSCI World Index. HFRI Fund Weighted Composite Index is a global, equal-weighted index of over 2,000 single-manager hedge funds that report to HFR Database. MSCI World Index is a free-float-adjusted market-capitalization-weighted index that is designed to measure the equity market performance of 23 global developed markets.


Aver

age R

etur

n (%

)

DOWN MARKETS UP MARKETS

4

-3.54

-0.64

3.26

1.76321

-1-2-3-4

Developed MarketHedge Funds

0

18% Down Capture

54% Up Capture

Helping Chart a Better Course

Looking at it another way, hedge funds have helped

investors navigate difficult markets over the long term by experiencing significantly fewer negative months than developed market equities.

Months With Significant Negative Returns

0 10 20 30 40 50 60

55

7Hedge Funds

Equities have experienced a much bumpier ride than hedge funds

Developed Market Equities

Source: MPI Stylus. Numbers indicate months with returns of less than -3%. Data based on historical performance from January 1, 1990, through December 31, 2016. Past performance is no guarantee of future results. Chart is for illustrative purposes only. Hedge Funds are represented by the HFRI Fund Weighted Composite Index. Developed Markets are represented by the MSCI World Index. An index is unmanaged and not available for direct investment.

The Importance of Downside ProtectionHedge funds’ ability to help investors avoid the full downside of market volatility may not seem that important, but consider the chart below. Given a 10-percent decline, an investor would need an 11-percent gain to get back to where they started.

With a 50-percent decline—similar to what the stock market experienced during the Great Recession—it would take a 100-percent gain to recoup the loss.

Deeper Losses Mean Tougher Recoveries

Data shown in the chart is hypothetical and for illustrative purposes only. Results are not based on an actual portfolio or representative index.

Protecting the value of your portfolio to the extent possible during a downturn may mean your portfolio won't have to work as hard to grow in the coming years.

Hedge funds are only available to persons who are “accredited investors” or “qualified purchasers” within the meaning of U.S. securities laws. Suitability requirements include: Accredited Investors: Individuals with $200,000 Annual Income ($300,000 if Joint) for the past two years or net worth greater than $1 million (or Entities with total assets of $5 million or greater). Qualified Purchasers: Individuals with investments of $5 million (or Entities with investments of $25 million). For important risk information related to hedge funds, please see page 15.

120

100

80

60

40

20

0

Initial Investment

11% Gain

100% Gain

Investment After Drop

Example 1: 10% Drop Example 2: 50% Drop

Gain Needed to Break Even

Dolla

rs


How Can Private Capital Potentially Enhance Returns?

Private Capital May Unlock Significant OpportunityThe past two decades have seen the number of U.S. publicly traded companies drop nearly 50 percent, from a peak of just over 8,000 in 1996 to only just over 4,000 at the end of 2016. However, there are currently nearly 6 million private companies, approximately one-third of which have more than 100 employees.1 This represents a potentially deep well of

opportunity for qualified investors, but how can they gain access to these companies?

That’s where private capital comes in. It gives these investors access to private companies primarily through:

Private Equity• Investing directly in private companies or assets in return for an ownership position

• The capital can be used to, for example:

❍ Fund new technologies ❍ Expand working capital ❍ Make acquisitions ❍ Strengthen a balance sheet

• Strategies typically include:

❍ Buyout ❍ Special situations ❍ Growth equity ❍ Venture capital

Private Debt• Directly providing debt capital to private companies, typically in return for interest income

• Strategies traditionally include providing debt across a company’s capital structure to include:

❍ Senior-secured debt ❍ Junior-secured debt ❍ Mezzanine debt

A Variety of Potential Benefits Access to private capital is normally open to qualified purchasers, and sometimes accredited investors, through an investment in a privately offered fund that pools investors’ money to invest in a portfolio of private equity, private debt, or both. It can offer a number of benefits for these investors, including:

R R RExploiting pricing inefficiencies. Private equity can take advantage of the

difficulty in determining a company’s worth because of the lack of public information available.

Effecting corporate change. Private equity managers often use a hands-on

approach to investing and get involved directly with company management and advise on improvements.

Using patient capital. Private capital provides access to investments that are

longer term in nature and, as a result, may have greater return potential.

1. Sources: U.S. Census Bureau and World Federation of Exchanges


A Consistent Track Record One reason for qualified investors to consider private capital is that it offers the potential for higher returns than many other asset classes.

Private Equity Has Often Outperformed Other Asset Classes

Source: Cambridge Associates, MPI Stylus. Data as of December 31, 2016. Performance results are for illustrative purposes only. Past performance is no guarantee of future results. An index is unmanaged and not available for direct investment. The index representing private equity uses a modified private market equivalent (mPME) calculation as a way to replicate private investment performance under public market conditions. While traditional public market indices calculate an average annual compounded return (time weighted over specified time periods), private indices measure performance using internal rates of return and multiples based on cash flows (money-weighted returns). The mPME is net of fees, expenses, and carried interest. Public market indices assume the reinvestment of dividends and other distributions but do not reflect deduction for fees, expenses, or taxes. Index comparisons have limitations. No index is directly comparable with traditional or private investments and should not be relied upon as a measure of the performance a portfolio may achieve. Private equity is represented by the Cambridge Associates U.S. Private Equity Index, developed market equities represented by the MSCI World Index, small-capitalization equities represented by the Russell 2000® Index, and fixed income represented by the Bloomberg Barclays U.S. Aggregate Bond Index.

More Opportunities May Lie Ahead The amount of companies backed by private equity has been growing steadily and now represents more than triple the number of publicly traded U.S. companies. However, this is still only a fraction of the total number of private companies, suggesting there could be many new investment opportunities in the coming years.

Global Inventory of Private Equity–Backed Companies

Sources: U.S. Census Bureau and World Federation of Exchanges

Accredited investors are individuals with annual income of $200,000 ($300,000 for married couples) for the past two years or a net worth greater than $1 million and entities with total assets of $5 million. Qualified purchasers are individuals with investable assets of $5 million and entities with investable assets of $25 million. For important risk information related to private capital funds, other asset class risks, and the definitions of the indices related to the performance chart above, please see pages 15 and 16.

Developed Market Equities Private Equity Small-Capitalization Equities Fixed Income

3 Year 5 Year 10 Year 15 Year 20 Year 25 Year0%

4%

8%

12%

16%

2,461 2,859 3,341 3,9474,637

5,4616,556

7,8518,980

9,48810,246

10,930 11,657 12,27613,146

14,115 14,683

0

4,000

8,000

12,000

16,000

’00 ’01 ’02 ’03 ’04 ’05 ’06 ’07 ’08 ’09 ’10 ’11 ’12 ’13 ’14 ’15 ’16

Year of Investment2011–20162006–20102000–2005Pre-2000Co

mpa

nies


Is Now a Good Time to Use Alternative Strategies?

The Case for Alternative Investments TodayAs shown in the charts below, today’s investors are seeing stocks near record-high levels and interest rates that are expected to continue rising. In addition, inflation is increasing and intra-stock correlations are decreasing. In this type of environment, we suggest that investors consider alternative investments as a way to participate in the upside potential of financial markets while potentially mitigating the effects of inevitable market corrections.

We suggest that investors consider alternative investments as a way to participate in the upside potential of financial markets while potentially mitigating the effects of inevitable market corrections.

Stocks Are Near Record Highs

Source: Standard & Poor’s. Data as of May 18, 2017. Past performance is no guarantee of future results.

Federal Reserve Is Raising Rates

Sources: Federal Reserve, Wells Fargo Investment Institute (WFII). Data as of May 31, 2017.

S&P 500 is up approximately 65%

S&P

500

Inde

x

1,400

1,600

1,800

2,000

2,200

2,400

2,600

2013 2014 2015 2016 2017

1.375%

0.550%0.500%

1.250%

1.500%

1/17 12/17

0.700%

0.900%

1.100%

1.300%

1.500%

Fed Projection

Low-End WFII Projection

High-End WFII Projection

Fede

ral F

unds

Rat

e


Falling Victim to Recency Bias Might Be CostlyThe past several years have been very good for U.S. stocks, which might have you questioning the value of holding other assets in your portfolio. But as shown below, how an asset class has performed during the past five years has not been a good indicator of how it has done during the next five years.

Projecting recent returns into the future is known as recency bias. Right now, a recency bias may suggest you own only U.S.

stocks. However, experienced investors have seen trends change unexpectedly, which has proven costly for those investors who were not adequately diversified. That’s why we recommend a four-asset-group allocation that includes global stocks; bonds; real assets, such as real estate and commodities; and alternative investments to help manage a portfolio’s risk and return regardless of what the latest trend has been.

Recent Performance Has Not Been a Good Predictor64%

of best-performing asset classes ended up in the bottom half in the subsequent five-year period

68%of worst-performing asset classes ended up in the

top half in the subsequent five-year period

Source: MPI Stylus. Based on performance during 1986–2016. Data as of December 31, 2016. Comparison of how the best-performing and worst-performing asset classes during a given five-year period performed during the subsequent five-year period. For example, the best-performing and worst-performing asset classes for the 1986–1990 period were compared against their performance during the 1991–1995 period. The indices used in the calculations of the performance results shown above reflect the historical performance of the index and assume the reinvestment of dividends and other distributions. Indices reflect general market results and do not reflect actual portfolio returns or the experience of any investor. An index is unmanaged and not available for direct investment. Past performance is no guarantee of future results. Definitions of the indices and descriptions of the asset-class risks are provided below. The indices represented in the calculations include: Bloomberg Barclays U.S. Aggregate Bond, Bloomberg Barclays U.S. Corporate High-Yield Bond, Bloomberg Barclays Commodity, FTSE EPRA/NAREIT, HFRI Fund Weighted, JPM EMBI Global, MSCI EAFE, MSCI Emerging Markets, Russell 2000, and S&P 500 Indices.

A Potentially Potent CombinationHistorically, adding both hedge funds and private equity to a traditional stock and bond portfolio has significantly improved its diversification, helping manage volatility and reduce downside risk while still being able to participate in up markets.

Source: MPI Stylus. Data as of December 31, 2016. Data shown since January 1, 1990, the inception of the HFRI Fund Weighted Composite Index. Performance results are for illustrative purposes only. Hypothetical and past performance do not guarantee future results. An index is unmanaged and not available for direct investment. The index representing private equity uses a modified private market equivalent (mPME) calculation as a way to replicate private investment performance under public market conditions. While traditional public market indices calculate an average annual compounded return (time weighted over specified time periods), private indices measure performance using internal rates of return and multiples based on cash flows (money-weighted returns). The mPME is net of fees, expenses, and carried interest. Public market indices assume the reinvestment of dividends and other distributions but do not reflect deduction for fees, expenses, or taxes. Index comparisons have limitations. No index is directly comparable with traditional or private investments and should not be relied upon as a measure of the performance a portfolio may achieve. Fixed income is represented by the Bloomberg Barclays U.S. Aggregate Bond Index. Hedge funds are represented by the HFRI Fund Weighted Composite Index. Private equity is represented by the Cambridge Associates U.S. Private Equity Index. Developed market equities are represented by the MSCI World Index. The alternatives blend is hypothetical and represented by a 50/50 split between the Cambridge Associates U.S. Private Equity Index and the HFRI Fund Weighted Composite Index. Drawdown is the peak-to-trough decline during a specific period of an investment. It is usually quoted as the percentage between the peak and the trough. Standard deviation is a measure of the volatility of a portfolio's return. The higher the standard deviation, the greater volatility has been.

Please see important index information, definitions of the indices and the risks associated with the asset classes relating to the chart above on page 16.

3.98%

8.39%

16.45%

0%

4%

8%

12%

16%

20%

-50%

-40%

-30%

-20%

-10%

0%

Fixed Income

Annualized Standard Deviation Maximum Drawdown Return Average Monthly Return in Up-Equity Markets

-3.87%

-22.65%

-49.05%

1.35%

4.76%5.74%

0%1%2%3%4%5%6%7%

50% Hedge Funds/50% Private Equity Developed Market Equities


Adam Taback Head of Global Alternative Investments

Adam Taback is the head of Global Alternative Investments (GAI), a division of Wells Fargo Investment Institute. He serves as the president and chairman of the boards of trustees/managers for the GAI Registered Funds; president and director of Global Alternative Investment Services, Inc.; and director and president of A.G. Edwards Capital, Inc. Mr. Taback earned a Bachelor of Arts in Political Science from Syracuse University and a Master of Science in Accounting from Nova Southeastern University.

James Sweetman Senior Global Alternative Investment Strategist

James Sweetman is a senior global alternative investment strategist for GAI, a division of Wells Fargo Investment Institute. Mr. Sweetman formulates strategy and asset allocation guidance for GAI. He has more than 24 years of experience in financial services. Mr. Sweetman earned a Bachelor of Business Administration from Baruch College, The City University of New York. He is an active member of the Managed Funds Association.

Justin Lenarcic, CAIA Global Alternative Investment Strategist

Justin Lenarcic is a global alternative investment strategist for GAI, a division of Wells Fargo Investment Institute. Mr. Lenarcic researches alternative strategies, including developing strategy convictions, sourcing, constructing recommended portfolios, and publishing alternative investment commentary. He has more than 11 years of experience in financial services. Mr. Lenarcic earned a Bachelor of Arts in History from the University of North Carolina at Chapel Hill. He is a Chartered Alternative Investment Analyst (CAIA℠) designee.

Tracie McMillion, CFA Head of Global Asset Allocation Strategy

Tracie McMillion leads the development of global investment strategy, oversees the creation of asset allocation recommendations, and writes economic and market commentary and analysis for Wells Fargo Investment Institute. Ms. McMillion has more than 20 years of experience in financial services. She earned a Bachelor of Arts in Economics and a Master of Business Administration from the College of William and Mary in Virginia. She is a CFA® charterholder and member of the CFA Society North Carolina.


Helping you build a stronger financial futureTo get more information about alternative investments and help determining whether they may be right for you, contact your investment professional.

Index definitions from page 5Bloomberg Barclays U.S. Aggregate Bond Index is composed of the Bloomberg Barclays U.S. Government/Credit Index and the Bloomberg Barclays U.S. Mortgage-Backed Securities Index and includes Treasury issues, agency issues, corporate bond issues, and mortgage-backed securities.

Cambridge Associates LLC U.S. Private Equity Index® is a horizon calculation based on data compiled from 1,270 U.S. private equity funds (buyout, growth equity, private equity energy, and mezzanine funds), including fully liquidated partnerships, formed between 1986 and 2015.

HFRI Fund Weighted Composite Index is a global, equal-weighted index of over 2,000 single-manager funds that report to the HFR Database. Constituent funds report monthly net of all fees performance in U.S. dollars and have a minimum of $50 million under management or a 12-month track record of active performance. The HFRI Fund Weighted Composite Index does not include funds of hedge funds. Unlike most asset class indices, HFR index returns reflect fees and expenses.

MSCI World Index is a free-float-adjusted market-capitalization-weighted index that is designed to measure the equity market performance of developed markets. The MSCI World Index consists of the following 23 developed market country indexes: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Hong Kong, Ireland, Israel, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, the United Kingdom, and the United States.

Important Disclosures from page 7 Alternative mutual funds are subject to market risk, investment-specific risks, and the risks associated with the strategies pursued. They employ aggressive techniques generally not employed by traditional stock and bond mutual funds, including the use of short sales, leverage, and derivatives. Short selling involves the risk of potentially unlimited increase in the market value of the security sold short, which could result in potentially unlimited loss for the fund. Leverage increases a fund’s sensitivity to market movements. The use of leverage in a portfolio varies by investment strategy. Leverage can significantly increase return potential but create greater risk of loss. The use of derivatives, such as futures, options, swaps, or other derivative instruments, can expose the investor to additional risks. Derivatives generally have implied leverage and entail risks such as market, interest rate, credit, counterparty, and management risks. Counterparty risk is the risk that the other party to the agreement will default at some time during the life of the contract. Alternative mutual funds may hold investments that may be difficult to value. At times, the fund may be unable to sell certain of its illiquid investments without a substantial drop in price, if at all. Other risks may apply as well, depending on the specific investment product. Before considering, investors should carefully read the investment fund prospectus.

Risk Considerations from page 9Hedge funds trade in diverse complex strategies and employ aggressive investment techniques including the use of short sales, leverage, arbitrage and derivatives. They are not subject to the same regulatory requirements as mutual funds including providing investors with standardized pricing or valuation information. The fund may be illiquid and there may be significant restrictions on transferring interests. In addition, they may involve complex tax structures and there may be delays in tax reporting. No secondary market exists for hedge funds and none is expected to develop. There is no assurance any hedging strategy will be profitable or will not incur loss including the loss of the entire amount invested. Investors should consult a fund’s offering documents before investing.

Risk Considerations from page 11 Alternative investments, such as private capital funds, are not suitable for all investors. They are speculative and involve a high degree of risk that is suitable only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund and for which the fund does not represent a complete investment program. Private capital funds involve the risks inherent in an investment in securities, as well as specific risks associated with limited liquidity, the use of leverage, and illiquid investments. These funds are not required to provide investors with periodic pricing or valuation and are not subject to the same regulatory requirements as mutual funds. Private capital investments often demand long holding periods to allow for a turnaround and exit strategy. A fund’s offering documents should be carefully reviewed prior to investing. Stock markets, especially foreign markets, are volatile. Their values may fluctuate in response to general economic and market conditions, the prospects of individual companies, and industry sectors. Foreign markets have additional risks, including those associated with currency fluctuation, political and economic instability, and different accounting standards. Small-cap stocks are generally more volatile, subject to greater risks, and less liquid than large-cap stocks. Investments in fixed-income securities are subject to market, interest rate, credit/default, liquidity, inflation, and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can result in a decline in the bond’s price.

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Index Definitions from page 11Bloomberg Barclays U.S. Aggregate Bond Index is a broad-based index that measures the investment-grade, U.S.-dollar-denominated, fixed-rate taxable bond market, including Treasuries, government-related and corporate securities, MBS, ABS, and CMBS.

Cambridge Associates LLC U.S. Private Equity Index® uses a horizon calculation based on data compiled from 1,334 U.S. private equity funds (buyout, growth equity, private equity energy, and mezzanine funds), including fully liquidated partnerships, formed between 1986 and 2016. The index reports performance on a quarterly basis. The index has limitations (some of which are typical of other widely used indices) and should not be used to predict performance of an investment. These limitations include survivorship bias (the returns of the index may not be representative of all private equity funds in the universe because of the tendency of lower-performing funds to leave the index); heterogeneity (not all private equity funds are alike or comparable with one another; the index may not accurately reflect the performance of a described style); and limited data (many funds do not report to indices, and the index may omit funds, the inclusion of which might significantly affect the performance shown).

MSCI World Index is a free-float-adjusted, market-capitalization-weighted index that is designed to measure the equity market performance of 23 global developed markets.

Russell 2000 Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 8 percent of the total market capitalization of the Russell 3000 Index.

Asset-Class Risk Considerations from page 13Stock markets, especially foreign markets, are volatile. Stock values may fluctuate in response to general economic and market conditions and the prospects of individual companies and industry sectors. Small-cap stocks are generally more volatile, subject to greater risks, and less liquid than large-cap stocks. Foreign investing has additional risks, including those associated with currency fluctuation, political and economic instability, and different accounting standards. These risks are heightened in emerging markets. Bonds are subject to market, interest rate, price, credit/default, liquidity, call, inflation, and other risks. Prices tend to be inversely affected by changes in interest rates. Commodities are not suitable for all investors. They may be affected by changes in overall market movements, commodity index volatility, changes in interest rates, or other factors affecting a particular industry or commodity. Hedge funds and private equity funds are not suitable for all investors. They are speculative and involve a high degree of risk that is suitable only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund. They trade in diverse complex strategies that are affected in different ways and at different times by changing market conditions. They employ aggressive investment techniques, including the use of short sales, leverage, and derivatives. Short selling involves leverage and theoretically unlimited loss potential since the market price of securities sold short may continuously increase. The use of leverage can magnify any price movements resulting in high volatility and potentially significant loss of principal. Derivatives generally have implied leverage and may entail other risks, such as market, interest rate, credit, counter-party, and management risks. Real estate has special risks, including the possible illiquidity of underlying properties, credit risk, interest-rate fluctuations, and the impact of varied economic conditions.

Index Definitions from page 13 Bloomberg Barclays U.S. Aggregate Bond Index is a broad-based index that measures the investment-grade, U.S.-dollar-denominated, fixed-rate taxable bond market, including Treasuries, government-related and corporate securities, MBS, ABS, and CMBS.

Bloomberg Barclays U.S. Corporate High-Yield Bond Index covers the U.S.-dollar-denominated, non-investment-grade, fixed-rate, taxable corporate bond market.

Bloomberg Barclays Commodity Index is calculated on an excess return basis and reflects commodity futures price movements.

Cambridge Associates LLC U.S. Private Equity Index® uses a horizon calculation based on data compiled from 1,334 U.S. private equity funds (buyout, growth equity, private equity, energy, and mezzanine funds), including fully liquidated partnerships, formed between 1986 and 2016. The index reports performance on a quarterly basis. The index has limitations (some of which are typical of other widely used indices) and should not be used to predict performance of an invest-ment. These limitations include survivorship bias (the returns of the index may not be representative of all private equity funds in the universe because of the tendency of lower-performing funds to leave the index); heterogeneity (not all private equity funds are alike or comparable with one another; the index may not accurately reflect the performance of a described style); limited data (many funds do not report to indices, and the index may omit funds, the inclusion of which might significantly affect the performance shown).

FTSE EPRA/NAREIT Developed Index is designed to track the performance of listed real estate companies and REITs in developed countries worldwide.

HFRI Fund Weighted Composite Index is a global, equal-weighted index of over 2,000 single-manager hedge funds that report to HFR Database.

JPM EMBI Global Index U.S.-dollar-denominated, investible, market-cap-weighted index representing a broad universe of emerging market sovereign and quasi-sovereign debt.

MSCI EAFE Index is a free float-adjusted market-capitalization index designed to measure the equity market performance of developed markets, excluding the U.S. and Canada.

MSCI Emerging Markets Index is a free-float-adjusted market-capitalization-weighted index designed to measure equity market performance of 23 emerging markets.

MSCI World Index is a free-float-adjusted, market-capitalization-weighted index that is designed to measure the equity market performance of 23 global developed markets.

Russell 2000 Index measures the performance of the 2,000 smallest companies in the Russell 3000 Index, which represents approximately 8 percent of the total market capitalization of the Russell 3000 Index.

S&P 500 Index is a market-capitalization-weighted index composed of 500 widely held common stocks that is generally considered representative of the U.S. stock market. Returns assume reinvestment of dividends and capital gain distributions.

Important DisclosuresGlobal Alternative Investments (GAI) is a division of Wells Fargo Investment Institute, Inc. (WFII). WFII is a registered investment adviser and wholly owned subsidiary of Wells Fargo & Company.

The information in this report was prepared by Wells Fargo Investment Institute (WFII). Opinions represent WFII’s opinion as of the date of this report and are for general information purposes only and are not intended to predict or guarantee the future performance of any individual security, market sector, or the markets generally. WFII does not undertake to advise you of any change in its opinions or the information contained in this report. Wells Fargo & Company affiliates may issue reports or have opinions that are inconsistent with, and reach different conclusions from, this report.

The information contained herein constitutes general information and is not directed to, designed for, or individually tailored to, any particular investor or potential investor. This report is not intended to be a client-specific suitability analysis or recommendation; an offer to participate in any investment; or a recommendation to buy, hold, or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs, and investment time horizon.

Wells Fargo Advisors is registered with the U.S. Securities and Exchange Commission and the Financial Industry Regulatory Authority, but is not licensed or registered with any financial services regulatory authority outside of the U.S. Non-U.S. residents who maintain U.S.-based financial services account(s) with Wells Fargo Advisors may not be afforded certain protections conferred by legislation and regulations in their country of residence in respect of any investments, investment transactions, or communications made with Wells Fargo Advisors.

Wells Fargo Advisors is a trade name used by Wells Fargo Clearing Services, LLC, and Wells Fargo Advisors Financial Network, LLC, Members SIPC, separate registered broker/dealers and nonbank affiliates of Wells Fargo & Company. ©2017 Wells Fargo Investment Institute. All rights reserved. 0617-04434 IHA 4166403

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