WHAT ARE ALTERNATIVES?
ASSET CLASSES OUTSIDE OF THE MAINSTREAM
Capital at Risk: The value of investments and the income from them can fall as well as rise and are not guaranteed. The investor may not get back the amount originally invested.
Whether it’s ‘real’ assets, such as infrastructure, forestry or real estate or sophisticated investment strategies such as long-short equity funds or systematic-trend following, they are fast becoming staples in investor portfolios – particularly as the current investment climate becomes more difficult.
THE MAIN CATEGORIES OF ALTERNATIVES INCLUDE:
Alternatives were once accessible only to institutions such as pension funds and high-net-worth individuals. However, today they are becoming popular staples across all investor portfolios. This isn’t surprising, since markets are becoming harder to navigate and investors are seeking to lower volatility, enhance returns and increase their overall diversification.
BlackRock believe investors could enhance portfolios if a dynamic and diversified blend of alternatives investments were to be considered – whether within commodities, hedge funds or private markets – rather than remaining siloed within a particular strategy. Risk management tools and technologies are vital to understanding the benefits of alternatives in multi-asset portfolios, and to implementing such efficient blends.
They are more volatile than equities or bonds
While some alternative investments can experience higher levels of volatility than stocks and bonds, others display less volatility than traditional assets. When properly used, alternatives can lower the overall volatility of a diversified portfolio.
One alternative is enough for diversification
A single alternative investment is likely to have less diversification benefit than a selected mix of uncorrelated assets and strategies.
They are too illiquid
The liquidity of alternative investments depends on the individual investment. Some alternative mutual funds provide daily access to cash.
Retail clients struggle to access them
Today’s product structures have brought many alternative asset classes within the reach of individual investors. Open ended mutual funds have few barriers to investing. Other fund structures may have some barriers to entry.
They are too risky in market downturn
It’s true that correlations across nearly all investments tend to converge under periods of extreme market stress. Even during crises, however, history shows that alternatives typically have not fallen as far as stocks, providing a cushion for investors.
They are too expensive
The fees for alternative investments vary and depend on the fund’s structure. An alternative investment’s “container” usually indicates the fees an investor can expect to pay. Partnerships typically entail management and performance fees. Mutual funds, on the other hand, charge a management fee but do not charge a performance fee.
HOW ARE INVESTORS
When considering alternatives investors need to define what they are trying to achieve: greater diversification in their portfolio, downside protection from market falls, or simply better absolute returns.
They also need to understand embedded risks in portfolios. Underlying liquidity mismatches, unintended asset class correlations, and opaque alternative strategies have all been pitfalls in the past.
If the aim is diversification, it’s important to make sure there’s a sufficient variety of alternatives to get the full benefit. The chart below shows how a sample of investors are currently structuring their portfolios, incorporating alternatives and multi-asset investing to reduce their equity exposure.
Source: BlackRock Portfolio Analysis and Solutions team (BPAS). 600 portfolios estimated at US$160 billion AUM collected from wealth managers, private banks, financial advisors and family offices from January 2017 to December 2018 across 13 major EMEA countries.
Alternatives can be vital building blocks to achieve greater diversification, dampen volatility and boost returns.