In its hunt for high returns in a low-return era, Korea Investment Corporation (KIC) plans to increase its allocation to alternatives from 7% of its portfolio to 20%.

It will be a move that bucks the general trend in the market to veer towards liquid investments. Scott Kalb, the government fund's current CIO (and an ex-hedge fund manager), thinks it is necessary to make decent returns.

Speaking at the AsianInvestor summit in Hong Kong yesterday, he drew attention to the 30-year outperformance of bond markets, which from the 1980s to the noughties produced decade returns of 6.5%, 6.7% and 5.3%.

"That 30-year rally in fixed income has to come to an end, but when?" Kalb asked. "You go to buy treasuries at these yields, and it's akin to saying 'Please take my money, and promise you'll give it back. I don't want any return'."

Kalb doesn't like that. He needs to bring home the bacon. In 2008 KIC's portfolio was down 13.7% and in 2009 it was up 18.7%. In aggregate, since its inception in 2005, it is up 12%.

He draws attention to the problems that illiquid-asset investors have encountered. "Endowments had in the past produced the best returns, but they over-allocated to illiquids. Now they have no choice but to limit illiquid alternative allocations. They had pushed the envelope too far."

But increasing allocations to illiquid alternatives is exactly what Kalb plans to do, because he thinks illiquids are becoming attractively priced again, compared to a fair-to-overpriced valuation of liquid public markets. He believes we are at the early stage of a four- to five-year positive cycle for distressed allocations, to be expressed through real estate, credit and private equity.

Quite a ballsy call, especially as he believes that the world financial crisis is not yet over. "As transactions done at the top of the market in 2005-2007 face debt maturity in coming years," he says, "restructuring and recapitalisation needs are going to be huge."

Kalb doesn't feel hedge funds are needed when sweet returns are available in fixed income. In anticipation of the prediction that the fixed-income bull run is about to end, he reckons hedge funds can provide some alpha. He marks the cards of long/short funds as "home-run hitters", followed by macro managers, for which he believes outperformance periods are lower than long/short equity -- their risk being long periods of underperformance in upward markets.

He's starting by giving extra weight to venture capital and leveraged-buyout allocations. Time will tell if his bullish calls on the illiquid end of alternatives generate the returns Kalb needs, or he gets caught out.