Taking the alternative view

What do batteries, forests, hydrogen, your favourite songs and space exploration all have in common? The answer is that they all offer the potential to generate an attractive financial return according to a new briefing from the analyst Kepler Trust Intelligence – and in each case this potential can be accessed through investment companies.

These are examples of new types of alternative asset. They’re alternative in the sense that most investors typically focus on conventional investments such as equities and bonds; and they’re assets in that it is possible to earn income and/or capital growth from them, just as it is with conventional investments.

In fact, many investors are adding alternative assets to their portfolios, recognising that these can provide important diversification benefits – spreading risk beyond equities and bonds – as well as the potential for attractive rewards. Indeed, alternative investments such as infrastructure, renewable energy and even private equity are already increasingly mainstream.

However, the very nature of alternative assets is that new opportunities emerge over time. Each of these opportunities comes with a different risk and return profile, but offers something new.

Back to Kepler’s briefing then. It picks out five areas that it thinks could be described as new asset classes; the analyst calls them “fledgling alternatives”.

First, battery storage is becoming a crucial resource, Kepler points out. In a world that is increasingly dependent on intermittent renewable energy such as solar and wind power, we need new ways to store energy for use when the wind isn’t blowing and the sun isn’t shining. This is prompting huge investment in battery storage technology the world over.

Second, forestry is attracting interest for similar reasons. The ability of forests to soak up carbon emissions means there is growing demand for reforestation of the land. Many governments now have tax systems that incentivise this in one way or another, creating further investment potential.

Similarly, hydrogen is another area where the need to address climate change is a key driver. Growing numbers of companies are developing technologies that enable the use of hydrogen as a source of clean energy for the power, heating and transport sectors. If these technologies can be scaled, the market opportunity could be enormous.

Songs, on the other hand, are a different kettle of fish. In recent years, artists and their record labels have begun to sell off the rights to earn royalties from their music; it’s a way to convert future earnings into cash today. Investors are increasingly buying these rights in order to benefit from the income streams they create; they can also generate new value by licensing the music for use in adverts or films.

Finally, Kepler’s analysts point to space exploration as another emerging alternative asset class. The proliferation of private companies now exploring space travel and associated technologies – for everything from space tourism to satellite launches – continues to grow. What was once an exclusively state-sponsored economy is fast becoming a private market.

In each of these examples of a new alternative asset, you can begin to see why investors might be excited by the potential. However, to exploit that potential, you need access to specialist expertise – and an understanding of the potential risks, which may be elevated, as well as the possible rewards.

Investing through a fund therefore makes sense. You get access to a professional manager with the resources to investigate these areas properly. The manager is also more likely to be able to invest in private companies – many of the businesses in these emerging areas are not yet big enough to list on a public stock market.

This is where investment companies come into their own. The structure of an investment company protects it when the fund invests in assets that may prove illiquid and volatile. Open-ended funds, by contrast, are vulnerable to liquidity issues; if sentiment sours, they may be forced to exit investments in a hurry, and at depressed prices.

In fact, investment companies have a long and proud history of investing in alternatives; they have often been the only way for private investors to secure exposure. And in each of the five areas above, Kepler points to specialist investment companies continuing that record.

These funds include: Gresham House Energy Storage, Harmony Energy Income, Gore Street Energy Storage, Foresight Sustainable Forestry, HydrogenOne Capital, Hipgnosis Songs and Seraphim Space. There are also a number of more generalist funds that have some holdings in each of these areas.

None of which is to say these new asset classes will deliver in the way that investors hope – or that any of these investment companies will outperform. For now, they are developing areas of interest, with many uncertainties, rather than sure-fire winners. The funds in question therefore carry significant risk and won’t be suitable for everyone. Still, for investors interested in exploring these fascinating areas, investment companies are currently the best (and often the only) option.