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After battling downturns within the stock and bond markets, more financial advisors seeking to further diversify their clients are turning to alternative investments, in response to a recent survey from Cerulli Associates.
Falling outside of traditional asset classes, alternative investments are typically added to portfolios for more diversification, income generation and the opportunity of higher returns.
The report, surveying 100 advisors throughout the first half of 2022, found average alternative allocations of 14.5%, with advisors aiming to spice up percentages to 17.5% in two years.
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While average industry allocations for alternatives and commodities could also be closer to 10%, Cerulli sees a “Goldilocks moment” for these assets amid demand for income, higher returns and volatility protection as more products turn out to be available.
Almost 70% of respondents said the highest reason for alternative allocations was to “reduce exposure to public markets” and 66% aimed for “volatility dampening” and “downside risk protection,” in response to the report. Other top reasons for alternatives were income generation, diversification and growth.
Alternative investments may fall into 4 categories: hedge funds, private equity, “real assets” like real estate or commodities and pre-packaged investments often called “structured products.”
“We’ve been using alternatives for some time,” said Ashton Lawrence, a licensed financial planner with Goldfinch Wealth Management in Greenville, South Carolina, whose firm has used assets focused on events and company mergers, together with funds offering downside protection through put options.
“When rates of interest were extremely low, we desired to have something that may anchor the portfolio but not be tied to rates of interest,” he said.
Scott Bishop, executive director of wealth solutions at Houston-based Avidian Wealth Solutions, said his firm used private equity, private debt, some hedge funds and a few “smaller investments” which might be less attractive to Wall Street banks.
The most well-liked alternative assets are so-called liquid alternative mutual funds and exchange-traded funds, offering hedge fund-like strategies to on a regular basis investors, in response to the Cerulli survey, together with non-traded real estate investment trusts, that are not bought and sold on a stock exchange.
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With a variety of assets falling under the choice investing umbrella, it is easy to misunderstand what you own and what’s designed to do, Lawrence said.
Before diving into alternative investments, you would like a transparent understanding of the underlying asset and the environment where it could perform the most effective. Otherwise, you might have mismatching expectations, he said.
“A hammer is a tool and a spatula is a tool,” he said. “But when I take a hammer and check out to flip pancakes within the kitchen, I will have a foul experience.”