Allocate enough in alts to make a difference
By Bruce Kelly
Sep 23, 2013 @ 3:04 pm (Updated 3:08 pm) EST
To make sure alternatives are making a difference in a client’s portfolio, advisers should allocate between 10% and 20% of their entire investments in alts.
That was one conclusion made in Chicago on Monday at the InvestmentNews Alternative Investments Conference. In a panel titled “The Alternative Asset Allocation Model,” Steve Medina, head of global asset allocation and senior portfolio manager for John Hancock, said that if an investor is not at least 10% invested in alternatives, “you’re not moving the dial. It should be upwards to 20%.”
“Different alternatives have different risk and return profiles,” Mr. Medina said. “Different alternatives behave differently. Know what you own. But how much is right for my portfolio? Own enough to make a difference.”
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The panel also discussed how advisers should fund the allocation. In the past, advisers would have considered reducing their exposure to equities because of the correlation between some hedge funds and stocks. But with the end of a 30-year bull market in bonds, advisers should think about funding alternative investments by reducing clients’ allocation to fixed income, one panelist said.
“We’re taking money away from fixed income to fund hedge fund allocations,” said David Reichart, head of business development for the Principal Funds. “Historically, you would have taken it away from equities.”
Mr. Medina noted that funding for alternative investments can also come from the adviser’s “worst idea,” or area of the market he or she dislikes the most in that time period. At the beginning of the year, that area was Treasury inflation-protected securities.
“Ask yourself, ‘What is my worst idea?’” he said. “This year, we hated TIPS. You can allocate the client’s exposure to alternative investments from the worst idea.”
Regarding funding clients’ exposure to alternative investments, Mr. Medina said advisers should consider funding half from equities and half from bonds to balance the portfolio better.
“If you fund alternatives 100% from bonds, you’ll get better returns but get an increase in risk,” he said. “If you fund 100% from equities, you will reduce the overall risk, but there’s a cost to that and you will hold back a little bit of total return over time. Therefore, start with the concept of funding half from equities and half from fixed income.”
Bruce Kelly covers the securities industry, with a focus on independent broker-dealers; please contact him if you have news, information or industry scuttlebutt to discuss.
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Credit: RSS for Investments
