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Mainstream Alternative Investments

Beyond the Fringe: The Evolution of Mainstream Alternative Investments

Mainstream Alternative Investments Defy Tradition

It wasn’t too long ago that investments in commodities, real estate or hedge funds were considered somewhat exotic. That may be all about to change if recent surveys prove correct.

According to one paper, “Alternatives in the Mainstream,” based on a 2017 survey by InvestmentNews and developed with Blackstone, “Traditionally ‘alternatives’ meant assets and asset classes that had negative or very low correlations to the traditional asset classes of equities, fixed-income securities and cash. In simple terms, when traditional stocks and bonds zigged, alternatives were understood to zag.”

However, because of some of the shared impact of public trading on both the traditional and alternative marketplaces, the line may be getting fuzzier.

Traditionally ‘alternatives’ meant assets and asset classes that had negative or very low correlations to the traditional asset classes of equities

For example, the paper continued, “If an office building is part of a real estate investment trust whose shares are traded publicly does that make it an alternative – or more similar to a traditional equity investment?”

The research brief noted that average allocations to alternatives could increase from 10% to 14% of a client’s portfolio within three years. Such a shift could represent nearly $150 billion in net flows to alternatives among independent advisors alone.

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Also citing the positive climate for the growth of mainstream alternative investments, McKinsey & Company wrote in “Thriving in the New Abnormal” that the “global growth in alternatives continues to outstrip that of traditional assets.”

Alternative Investing as a Retirement Income Strategy

Each day for the next four years, 10,000 baby boomers will enter retirement age. The implications of economic policies on their retirement security are especially time-sensitive, according to the Pew Research Center. Few 65 year-olds will have time on their side, in order to recover from a loss if their assets are hit by another event like the Great Recession of 2007-2009.

“For the retirement-minded, alternative opportunities can be accessed through individual retirement accounts such as self-directed IRAs,” said Jeffrey Kelley, senior vice president of Equity Institutional. “The power of a self-directed IRA comes from its broad access to investment options like private equity, real estate, precious metals or other alternatives to traditional investment choices.”

“For the retirement-minded, alternative opportunities can be accessed through individual retirement accounts such as self-directed IRAs

Jeffrey Kelley

People are living longer, health care expenses are mile-high and many boomers have little saved for their golden years. Generating enough income for clients during retirement is increasingly a challenge for financial advisors. Allocating more toward mainstream alternative investments assets is one proactive risk-management strategy used  in today’s low-yield environment.

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People want to Know more about Mainstream Alternative Investments

Despite projections on the popularity of alternatives made in “Alternatives in the Mainstream”, it was also pointed out that people have still sunk more than 90% of their money into traditional stocks, bonds and mutual funds. This relatively narrow range of choices proved particularly vulnerable to the economic shocks of 2008-2009.

The report also highlighted some surprising disconnects between investors and advisors on alternative investments:

  • 83% of clients are interested in alternatives, often without promptings from their advisors.
  • Yet, 67% of advisors say that clients’ “lack of understanding is a key impediment” to adding alternative allocations.
  • 51% of advisors said they themselves had “a need for more insight into portfolio construction with alternatives.”

According to Kelley, “Alternative assets, such as real estate investment trusts, mortgage notes, limited partnerships, limited liability corporations, precious metals, joint ventures, actively managed funds and private equity are typically tax-inefficient and are taxed at short-term capital gains or ordinary income-tax rates.”

Through a self-directed IRA program, investors can access the potential benefits of alternatives on a tax-advantaged basis

Moving these assets into tax-exempt vehicles, such as IRAs and other qualified retirement plans, can increase net income without adding risk to the portfolio, InvestmentNews reported. Through a self-directed IRA program, investors can access the potential benefits of alternatives on a tax-advantaged basis, Kelley said.

“Self-directed IRAs invested in alternatives may provide a way for investors to diversify a portfolio beyond traditional equity, bond and mutual fund choices,” said Paul D. McConville, president of Quincy Capital Partners, LLC, which serves alternative investment managers. “In effect, with a self-directed IRA, investors may gain a wider scope of action for how, when and where to invest their retirement assets.”

Educating Mainstream Investors about Alternatives

William Kelly, CEO of the Chartered Alternative Investment Analyst Association, recently wrote in Business Today, “Education will continue to be very important as mass affluent and other retail-oriented investors enter the brave new world of alternative investments, many for the very first time.”

“The true value proposition for alternatives is the role that they can play toward providing better risk-adjusted returns over the long run,” he added.

“Alternatives in the Mainstream” identified three areas where advisors primarily need support to increase their diversification to alternatives:

  1. More professional insight into portfolio construction with alternatives
  2. Tools for educating their clients
  3. Simplification of operational/paperwork issues

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More Alternative Allocations Call for an Alternatives Custodian

With alternative investments like real estate, precious metals, private equity, private debt and investment crowdfunding opportunities on the rise, broker-dealers are realizing the importance of more specialized custodians.

Says Kelley, “Managing payments, documentation and reporting can become more complicated in the world of alternatives. Qualified custodians in this area require an understanding of complex transactions and tracking capabilities for both contributions and distributions.”

Advisors are Advised to Study Up on Alternative Assets

Mainstream alternative investments are no longer a contradiction in terms. In fact, these studies indicate that financial advisors at firms of all sizes are likely to increase their investment in alternatives significantly over the next three years.

Advisors are eager to broaden their knowledge of alternatives to assist clients. Accordingly, advisors who develop a specialty in alternatives can give better advice to investors. This can in turn build stronger, more valuable relationships with clients over the long term.

With alternative investments like real estate, precious metals, private equity, private debt and investment crowdfunding opportunities on the rise, broker-dealers are realizing the importance of more specialized custodians.

Advisors who want to gain an edge will know to go beyond simply recommending products. They would be wise to emphasize the value of alternatives as a diversification tool and an option for retirement portfolios.

About John Drachman

As an award-winning writer, John developed marketing communications initiatives for dozens of money managers for more than 20 years. John combines editorial skill and marketing knowledge in helping advisors, money managers and service providers to grow and retain assets.

View all articles by John Drachman »

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