David Prosser explains how investment companies could be the answer for investors wanting exposure to alternative asset classes.
Could 2019 be the year of alternative investments? In a volatile political and economic environment – and following the global stock market volatility of 2018 – many investors are nervous about the prospects for traditional investments over the year ahead. Conventional “risk-off” assets look vulnerable too, with many advisers anxious about the potential for capital losses on fixed-income investments as interest rates in many parts of the world begin to rise. In which case, alternatives begin to look more attractive.
Alternative investments include private equity, hedge funds, property, certain types of debt, infrastructure and a range of other assets. Very often, the returns on these assets are barely correlated at all with stock market performance, which makes them ideal candidates for investors seeking diversification. They also offer investment opportunities that are difficult to match elsewhere – solid income underwritten by the state in the case of certain infrastructure investments, for example, or access to unlisted companies with private equity.
The question for investors and their advisers is how best to secure access to these asset classes. Institutional and high-net-worth investors have been investing directly into alternatives for many years, but very high minimum investment levels have often put these assets out of reach of the majority of people. Illiquidity is also a problem for many investors: alternatives typically feature a long-term return profile and it may not even be possible to sell up in the short run.
Financial watchdogs are increasingly alive to this quandary. Last month, the Financial Conduct Authority published a discussion paper looking at how to open up alternative asset classes to a broader range of investors. It thinks authorised funds have a role to play and has promised to consider changes to regulation if these are widely thought to be necessary.
However, the good news for advisers and investors is that the collective fund industry already offers a very accessible and convenient means of securing exposure to alternative assets. Many investment companies are active investors across the alternatives spectrum.
In this regard, the closed-ended fund industry offers the best of both worlds. It offers a choice of funds that invest in all the leading alternative assets, including private equity, hedge funds, property, infrastructure and debt. And it provides this access through conventionally structured funds, so investors can trade in and out of these assets as they see fit simply by buying or selling shares in the investment company of their choice. There’s no minimum investment and liquidity is not an issue.
Some investment companies are direct investors in their particular asset class while others operate using a fund of funds approach. The latter may be especially appealing to investors seeking to maximise diversification – perhaps as they make their first investments in alternatives – while the former may be more suited to those with experience in the sector.
Either way, if alternatives are to prove popular in the year to come, the investment companies sector has already democratised what was once a group of asset classes reserved for the elite. These assets carry their own risks, of course, and won’t be suitable for everyone. But for advisers and investors who do want exposure to alternatives, a closed-ended fund could be the answer.