Chris Loeffler is the CEO of Caliber (CaliberCos Inc.), an alternative asset manager and fund sponsor with approx. $500M in AUM.
The investment landscape is changing, and that was true even before seismic volatility shook the portfolios of most individual investors in 2022. Today, headwinds for the traditional portfolio of 60% public equities and 40% fixed income continue to build. Those are fueled, in part, by an increased understanding of and access to alternative investment options. But I think it’s important for investors to understand the secular shifts that are challenging conventional asset allocation paradigms.
Old Faithful: The 60/40 Portfolio
Since the early 1980s, the 60/40 portfolio of public equities and bonds was the gold standard for achieving long-term wealth. Grounded in the principles of modern portfolio theory, the simple blended portfolio is designed to deliver attractive risk-adjusted returns with less annualized volatility. Today, I see this trusty portfolio framework facing challenges from major marketplace shifts.
An Evolving Investment Landscape
Several factors have fundamentally altered the investment landscape in the U.S. While some of those stem from underlying market conditions that may be more transient than systemic, others are shifts in marketplace opportunities such as a quantifiable increase or decrease in the type of investment opportunities available.
For example, within public markets, investors broadly have embraced passive funds, which are designed to track the performance of a market index. These funds offer an uncomplicated vehicle for diversifying one’s investments with relatively low to very low fees. At year-end 2021, total net assets in index mutual funds and index ETFs reached $12.5 trillion, accounting for 43% of assets in long-term funds.
Interestingly, while passive investing in-flows grew steadily, the number of publicly listed companies declined precipitously. The number of publicly traded companies in the U.S. peaked in the mid-1990s at more than 8,000 firms. By 2019, that number fell by nearly 50% to 4,266, leaving investors with far fewer individual stock options for their portfolios. Individual investors face a shrinking opportunity set in public markets, which are more crowded, concentrated and correlated.
These numbers correspond to the well-reported explosion in private market capital. More companies have been turning to private markets for the capital they need to grow and expand their businesses. In fact, more capital was raised in private markets than in public markets each year for more than a decade between 2009 and 2019. As a result, private markets have played an increasingly important role in fostering innovation, value creation and economic growth across industries.
Reshaping Asset Allocation Frameworks
Today, I’ve seen many investors exploring the potential benefits of redesigning their asset allocation frameworks to add or increase exposure to alternative assets—and for good reason.
Adding alternatives to a traditional portfolio can curb volatility and enhance potential risk-adjusted returns. When J.P. Morgan ran the numbers, they found that adding a basket of alternative assets to a baseline 60/40 portfolio helped manage risk and improve returns. Shifting a 60/40 portfolio to 30% alternatives, 40% equities and 30% fixed income boosted annualized returns from 8.39% to 9.04% and reduced volatility from 9.66% to 7.97% during the period studied.
Challenges To Access
According to PwC, “Alternative asset classes – in particular, real assets, private equity and private debt – will more than double in size, reaching $21.1 trillion by 2025, accounting for 15% of global AuM.”
Unfortunately, access to these alternatives is still largely an exclusive club. Most investment strategies are built for large institutional investors and insiders. This leaves the vast majority of individual investors without ample exposure or opportunity to participate. Even when the opportunity arises, it tends to be “retail” shares of a fund, with fee structures that typically are less favorable than those for institutions. Yet, these investments carry the potential for high capital gains returned, compared with typical retail opportunities.
If the status quo continues, I believe that retail investors are at risk of falling further behind in generating wealth.
Building Modern, Well-Rounded Portfolios
There are promising signs on the horizon, and an increasing number of alternative asset managers in the marketplace are breaking down the barriers of exclusive investing. There is still much more work to be done, but I think we’re moving in the right direction to change the access equation.
I recommend that individual investors work with their advisors to determine how their portfolios may benefit from the inclusion of alternative investments across various asset classes and sectors, including private equity, direct lending, hedge funds, infrastructure and real estate. As it pertains to private real estate investments, my areas of expertise, many advisors recommend a 10% allocation. Of course, the right number will be higher or lower depending on your goals, objectives and risk tolerance.
Increasing your awareness and education around the availability of alternative asset investments is a critical first step in future-proofing your portfolio and achieving your financial goals.
The information provided here is not investment, tax, or financial advice. You should consult with a licensed professional for advice concerning your specific situation.
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