The Rise of Alternative

Asset Allocation to Alternative Investments Grows

Moving beyond the periphery.

Alternative investments have moved from the periphery of the global investment landscape into the mainstream. In just 15 years, alts grew from 6% to 12% or $13.4 trillion of the global market in 2018, and they are expected to grow between 18-24% by 20251. This rapid growth has been driven by institutional investors such as pension funds and endowments seeking diversification and return opportunities, as well high-net-worth individual2 . Despite this, many investors remain largely unfamiliar with alts, and therefore may not effectively utilize them as part of a well-diversified portfolio.

What is an Alternative Investment?

Exploring the broad universe.

An alternative investment is an all-encompassing term that generally refers to any investment that is not considered part of a traditional asset class such as cash, stocks and bonds. While this leaves a substantial universe of options, some of the largest categories of alternative investments include hedge funds, private equity, private credit, real estate and structured products. Each of these categories are as diverse as they are broad and have their own unique characteristics and features, as well as risk and return objectives.

Characteristics of Alternative Investments

Employing flexibility to seek out opportunity.

Contrary to their name, alternatives are not an either/or investment option that require investors to make the decision to invest in them or not, nor are they particularly uncommon. For example, real estate and commodities have been utilized by investors for centuries and are generally classified as alternatives. Additionally, a hedge fund may also invest in traditional stocks and bonds but utilize an alternative approach to generate returns. It is in the flexibility of alternatives to seek out opportunity by employing various strategies and solutions including derivatives, leverage, illiquidity, short positions and active management that can truly differentiate them from traditional, long-only investments. It is also these characteristics that can present the greatest inherent risks of investing in alternatives.

The Roles of Alternative Investments

Enhancing returns, diversifying risk and supplementing income.

Alternatives generally access differentiated drivers of returns and generate diverse exposures to risks. This can lead to their key roles within a portfolio – to potentially diversify the risk (hedge funds) of a portfolio due to their less-than-perfect correlation to traditional investments, and their potential to achieve high returns (private equity, including venture capital) 3. Additionally, since they invest across a broader universe of asset classes, some alternatives may be able to generate a higher level of income (private credit and structured products) with lower sensitivity to interest rates. By including a variety of alternative investments within a portfolio, it may be possible to reduce risk without a proportionate reduction in expected return4.

Categories of alternative investments are as diverse as they are broad and have their own unique characteristics and features, as well as risk and return objectives.