An Intro to Alternative Investing

December 20, 2023

Historically, investment management has primarily focused on buying and selling stocks and bonds through public market exchanges. However, the investment universe is vast and ever-changing. With new opportunities introduced over time, investors have been able to turn away from traditional investments to try and achieve their goals. That said, we still believe stocks should make up a majority of growth portfolios. We also feel strongly that public fixed income provides a ballast to portfolios and should continue to play a role in dampening volatility. However, we recognize that alternative strategies are essential to diversification and deliver what we hope are positive risk-adjusted returns. The alternative asset class is very broad and there is no one definition for this segment. At HMA, we like to think of alternatives as non-traditional equity and income investments that hopefully provide a different return stream than the traditional mix. Over the past several years, we have focused on this newer asset class as an important allocation to client portfolios. What exactly falls into this category? We help break that down below:

Private Markets:

Private markets are investments in non-publicly traded assets. Based on data from 2022, there are ~1.8 million private companies in the US with more than 50 employees, while there are only ~4,800 public companies domiciled in the US, highlighting the significantly larger opportunity set in the private markets¹. Private markets include private equity – investments in private companies; private credit (debt) – lending directly to borrowers with no tradeable market; and private real estate – purchasing real estate and infrastructure opportunities outside of public markets. Traditional private market investing was utilized by endowments, sovereign wealth funds, and institutional investors who could commit large amounts of capital and had the ability to lock up investments for long periods of time. More recently, private fund companies have recognized the appetite for this investment opportunity from everyday investors and have built more flexible vehicles, albeit with some liquidity constraints, that allow for investors who meet certain net worth requirements to participate in this space. Historically, private markets have provided higher returns and less volatility than their public market counterparts, but past performance is not indicative of future returns.

Real Assets:

Real assets are physical assets that are non-cyclical, provide low volatility, and tend to offer stable and predictable cash flow. Examples of real assets include infrastructure (social, utilities, transportation, energy) and real estate (residential, commercial, industrial). These structures provide essential services to society. Given the unique return drivers from these investments, returns are generally not well correlated to other asset classes. There are investment opportunities from this asset class across both the public and private landscapes. 

Buffered Funds:

Buffered funds are a more recent investment innovation that focus on downside risk control. Through the use of options trading, these strategies provide upside growth potential, based on an underlying security or basket of securities, up to a certain cap, while also providing a certain amount of downside protection were the market to sell off. Think of this as a hedge against significant market volatility.

Structured Notes:

Similar to the buffered funds referenced above, structured products provide defined outcomes with payoffs and/or protections that will be paid if certain conditions are met. The notes are senior, unsecured debt obligations of a bank that are customized to achieve a specific investment goal. Often, the protection parameters help improve the probability of achieving long-term investment objectives across different market environments.

Commodities:

Commodities include basic goods such as oil, precious metals, wheat, and corn. These investments tend to be non-correlated with traditional stocks and bonds. Investing in commodities can come from direct exposure (owning an actual bar of gold, or via a mutual fund/ETF) or from futures contracts, which are legally binding agreements to buy or sell a commodity at a future date for a fixed price or quantity.

If you are interested in learning more about the alternative asset class and how we implement different strategies, please don’t hesitate to reach out. Staying up to date with market trends, that’s HMA!

¹ Medical Expenditure Panel Survey ‘Number of Private Sector Establishments by Firm Size, United States 2022’ https://datatools.ahrq.gov/meps-ic/