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Portfolio > Alternative Investments

Alternative investments enter the mainstream

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Alternative investments have outpaced traditional investments since the Great Recession and, according to industry experts, are only expected to grow.

Alternatives can include private equity, illiquid types of investments and, in some cases, require investors meet minimum income and net worth requirements. But they’re not always among the more exotic investments, either. Investing in timber is considered by many to be an alternative investment, for instance.

Record low interest rates have forced investors and retirement plan sponsors to find new ways to get more out of their investments. That’s why the amount of money invested in alternatives has doubled since 2008.

See also: Insurers eye alternative strategies

In 2010, 34 percent of institutions had more than one-quarter of their portfolios in alternative assets, according to Morningstar. Research released last year showed 78 percent of all advisors were using alternative investments in their client portfolios.

Public pensions are among the bigger players in alternatives.

For example, the New Jersey Division of Investment, which manages investments for the $75.3 billion New Jersey Pension Fund, announced last month it will invest or commit up to $801 million in five alternative investment funds.

In North Carolina, State Treasurer Janet Cowell recently asked the legislature in her state for additional flexibility in allocating assets in the state’s investment portfolio. She asked to increase to 40 percent from 34 percent the amount the state’s pension plan is allowed to invest in alternatives.

The big reason for the request is that the state’s portfolio has a “higher than desirable allocation to publicly traded stocks, which is a problem given the danger of large equity market declines,” Cowell said in a statement.

Meanwhile, Morgan Stanley Alternative Investment Partners in mid-May announced the launch of its AIP Dynamic Alternative Strategies Fund, its first-ever mutual fund aimed at offering investors a “sophisticated, one-step means of accessing a broad range of alternative strategies that may complement traditional equity and fixed income investments.”

A recent survey of 300 individual investors by EverBank found that 52 percent were looking outside traditional U.S. equities in hopes of finding better performing investments this year. Of those, 21 percent were looking at precious metals, and 21 percent were looking at international equities. Seven percent were bullish on currencies, and 3 percent liked international fixed income.

“The reality is diversification is not as difficult or complex as many people believe, and we’re seeing a growing awareness of the importance of building investment portfolios that include traditional U.S. equities, traditional fixed-income assets and a wide range of more nontraditional investment vehicles,” Frank Trotter, president of EverBank Direct, said in a statement.

Part of the growth in alternatives has stemmed from the defined contribution market, which now has access to some of the alternative strategies that were only available to pension plans and university endowments in the past, according to a DWS Investments white paper.

CMG Capital Management Group of King of Prussia, Pa., offers alternative investments through its CMG Family of Funds. 

The company believes that through careful investment management, investors can achieve a better risk-adjusted return than through traditional buy-and-hold stock and bond investments.

“Hot money chases hot money because, behaviorally, they look at yesterday’s return and project it forward in a quick, get-rich-quick imprint in their mind,” said Steve Blumenthal, founder and CEO of CMG. “What we’re seeing is that the alternative portions of a portfolio are doing great.”

Blumenthal advocates for a 33-33-34 allocation split, with assets divided between equities, fixed-income and alternative investments.

Many people believe their portfolios are diversified if they have a mix of small, mid- and large-cap funds and bonds, but all of these investments are tied closely to the markets. If inflation goes up and markets go down, all of a person’s investments are “floating down the river at the same speed,” said Anton Bayer, CEO of Up Capital Management in Sacramento and San Jose, Calif.

“You have to take a different model of diversification,” Bayer said. “What we have done over the last five years is added sector funds, isolated to particular industries’ financials, like energy, and combined that with asset allocation funds that are risk-based.”

In other words, alternatives.

Bayer has been a fan of real estate investments since the end of 2010. Utilities also are a good performing sector, he said. He recommends his clients allocate about 5 percent of their investment dollars to these types of investments.

Blumenthal said he is a big proponent of liquid strategies that will allow investors to make money when interest rates go up or down or have the ability to shift weights to equities or to fixed-income when the need arises.

401(k) plans also are moving into the alternative space, if ever so carefully.

Chad Parks, founder and CEO of The Online 401(k), said he has stayed away from alternative investments because they add another complicated topic to an ever-expanding list of investment choices.

When plan sponsors ask for funds that are not traded on exchanges or hard assets like gold or real estate, The Online 401(k) sends them to someone else.

“I think it is definitely a minority, a very small group that would be asking for those types of things,” Parks said.

“There’s people out there who like it. Everyone thinks their investment is the best, but we’ve spent five years climbing out of a hole,” he said.

There’s another good reason to be careful about alternatives: they require close monitoring.

Last month, the Financial Industry Regulatory Authority Inc. imposed a $550,000 fine against VSR Financial Services Inc., a midsize broker-dealer, for not adequately watching over concentrated client positions of alternative investments. 

None of this means people will stay away from alternatives.

Students at Fordham University’s Gabelli School of Business recently looked into alternative investments, producing a survey that looked into the habits and beliefs of individual investors related to real estate, hedge funds and private equity investing. 

Key findings of the survey include:

  • Men are more familiar with alternatives than women, but women are more likely to invest in alternative investments in the future. Forty-nine percent of women surveyed own alternatives today, compared to 63 percent of men. But of the women who do not currently own alternatives, 65 percent would consider doing so in the future in contrast to 53 percent of men.
  • Respondents who follow the recommendations of a financial advisor are more likely to invest in alternatives today, specifically in hedge funds. Eighty-one percent of males use financial advisors to inform their decisions about alternatives versus only 68 percent of females.
  • Age also influences investing in alternatives, as just 9 percent of those born before 1963 invest in hedge funds versus 31 percent of respondents under the age of 50.
  • Real estate is the most understood and hedge funds are the least understood type of alternative investments. Fifty percent of respondents named loss of principal as the biggest risk when considering alternatives. However, respondents with an advanced degree are more concerned with loss of principal than respondents without an advanced degree.
  • Older respondents are more skeptical that increased regulation and market reform improves the safety of alternative investments.

For more on alternative investments, see:

Do you own any alternative investments (gold, real estate, etc.)?

Why alternative investments might be right for your client

Alternative Investments Run Hot and Cold


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